Pre-seed gaming valuations have further to fall

As much as VCs talk about adding value for founders (and some really do!), this doesn’t change the fact that our primary job is allocating capital to generate the best possible returns for our investors.

Two of the most important contributors to this goal are, of course, the price we pay at entry and how much we get paid when our companies exit.

As I write this, we have just returned from the Game Developers Conference (GDC), which has given me a good sense for the kind of rounds game startups are trying to raise at the moment.

My first and most unpopular conclusion: pre-seed prices in gaming are too high.

The distinction between pre-seed and seed is somewhat fuzzy these days, but I think of it mainly in terms of price, progress and traction. Pre-seed rounds have less, seed rounds much more - these days, it is rare to raise a true seed round without real signs of product-market fit.

In general, the bar for all stages has risen steadily in recent years, driven by huge increases in what can be accomplished by small teams using modern tools, platforms and services.

In our non-games investing, we see the results of this quite regularly. F4’s most recent pre-seed investment (still unannounced) is a SaaS company with an MVP used by dozens of paying customers and six figures in ARR growing 30%+ MoM.

We were able to invest at a lower valuation than we see many pre-seed game companies asking for when they have little more than a pitch deck.

If the games industry offered exit volumes or valuations that were much more compelling than other sectors, perhaps we could justify paying up. But large exits in gaming are relatively uncommon outside of cycles driven by major platform shifts.

I polled some colleagues on what they’re seeing, and most of them frequently get pitched for $1-$2M in pre-seed funding at $10M+ valuations, with the aim to produce something playable which can then be used to raise a seed round to get the game to market. Many of these companies have nothing more than a pitch deck.

I’ve previously argued that the days of the vertical slice seed round were numbered, and I think the grim reaper is coming for the pre-playable pre-seed as well.

Part of the valuation issue is driven by budgets. If you need $15M+ to ship your game, that puts a floor on what you can reasonably accept before dilution becomes an issue. I would argue that startup game studios should not try to fund games this expensive on venture capital, because you (and your earliest investors) are taking on an insane amount of downstream funding risk.

Strategic investors and publishers are a much better fit for funding expensive games than VCs, because they have the balance sheets, philosophy and corporate permission structure to stomach it.

Everyone’s game of the moment, Helldivers II, reportedly started out with a $12M budget and estimated 2 year development timeline. It ended up taking 7 years and costing at least $50M (some reports put the final cost much higher). Most VCs are not built for a journey like this.

I can’t speak for others, but our fund is focused on solo developers and small teams that are taking every shortcut and cutting every corner imaginable to ship, ship, ship on as little as they can. Technical founders have an advantage here, as do teams located outside of expensive geographies.

To raise a pre-seed for a game studio in 2023, you should have more than an idea, a deck and a theory of the market. You should have something playable, ideally enough so that you’ve been able to test it with a group of players in your target audience. Even better, you have de-risked the go-to-market in some way that demonstrates there is demand for what you’re building.

Finally: recognize how much market, execution and downstream financing risk your investors are taking on at the pre-seed stage, and price your equity accordingly.