In a message posted to its internal communications channel earlier this week, the massive startup accelerator Y Combinator said it will change the terms of its own PPP (the YC pro rata investment program) and investing in companies raising seed and Series A rounds on a case-by-case basis.
The company began a policy of investing in every seed and Series A round for its portfolio companies back in 2015.
Since then, it has taken a 7% stake in every company that raised a priced seed and Series A round, investing in more than 300 Y Combinator companies over nearly 500 rounds.
Under its new policy, the accelerator is reducing its investment size from 7% to 4% and is only investing on a case-by-case basis going forward.
The reason for the change is that the number of companies in its portfolio has gotten too large for it to invest and some of the limited partners who back the accelerator’s operations are balking at making commitments to the pro rata investment program.
“We have significantly exceeded the funds we raised for pro ratas, and the investors who support YC do not have the appetite to fund the pro rata program at the same scale,” the accelerator wrote in a post seen by TechCrunch. “In addition, processing hundreds of follow-on rounds per year has created significant operational complexities for YC that we did not anticipate. Said simply, investing in every round for every YC company requires more capital than we want to raise and manage. We always tell startups to stay small and manage their budgets carefully. In this instance, we failed to follow our own advice.”
For entrepreneurs who take investments from the accelerator, the change is pretty significant. On the accelerator’s internal messaging board they worried about the potential optics of having the accelerator not make a follow-on commitment.
YC addressed those concerns by saying it would not make an investment decision until a company had already received an initial term sheet from a lead investor.
The changes will take effect on May 8, 2020, the investor said.
“In the future, we will no longer invest automatically in every priced seed and Series A/B round. Instead, we will exercise pro rata rights on a case-by-case basis, like other investors on your cap table,” the accelerator wrote. “We’ve heard your feedback that YC’s pro rata allocation is bigger than what some of you would prefer. So for those investments we do make, we will reduce the size of our pro rata and simplify its calculation to be a flat 4% participation right in each priced round. To calculate the size of YC’s pro rata investment in your round, simply multiply the amount of capital you are raising by 4%. If our ownership right before the round is less than 4%, we will cap our investment in the round at our then-current ownership. Our intention is not to have a super pro-rata right.”
Even with the reduced investment size, YC said it would only make investments in roughly one-third of its portfolio.
“The YC Continuity team will manage these investment decisions and will work very hard to inform you within a day or two of receiving your materials,” the accelerator wrote. “We will honor any pending pro rata investments for term sheets signed before May 8. But we wanted to communicate this message broadly so that founders can plan accordingly.”
Gurupriyan is a Software Engineer and a technology enthusiast, he’s been working on the field for the last 10 years. Currently focusing on mobile app development and IoT.