What is a Down Round?

In investing circles, a down round is a situation in which the current value of a business is less than it was previously. Typically, this means that the value of any stocks issued by the company will also decrease in value, creating a loss for investors. It is not unusual for a down round to take place when a new company enjoys a great deal of success at first, then fails to maintain the attention and interest of consumers.

One of the easiest ways to understand how a down round occurs is to consider the launch of a new business. Thanks to funds provided by venture capitalists or angel investors, the new company is able to launch with a solid financial base, and issue shares of stock that equal roughly twenty percent of that funding. At first, the company experiences growth, owing to products that capture consumer interest and result in a high volume of sales.

Within a few months, the products are no longer of interest to consumers, and the fortunes of the company rapidly decline. In a matter of a couple of years, the company is no longer as valuable as it was initially, and the shares of stock are only worth seventy percent of their original value, resulting in a down round. Partners who invested in the startup of the business, plus any investors who purchased shares during the initial public offering, must now decide whether to sell those shares at a loss or hold onto them in hopes that the company will recover and begin to increase in value once more.

There are a number of reasons why a down round could take place. If the economy in general experiences a downturn, and the products sold by the company are considered luxuries rather than necessities, consumers may refrain from purchasing those products until the economy improves. Changes in technology may render the products obsolete, leading customers to focus their attention on more up to date products offered by the competition. Internal strife within the company that leads to frequent changes in leadership will also adversely affect confidence in the business and lead to a drop in sales and the value of any shares of stock currently in circulation.

In some instances, a down round foreshadows the demise of a company. This is especially true when consumers no longer desire the products manufactured or sold by the business, and the resources to overhaul the product line do not exist. At that point, the assets of the company can be liquidated and investors are able to recoup at least a portion of their investment.