Seed investors are souring on AI startups. Seed funding for AI and machine learning startups is down by over 50% year over year, according to a new report by Fortune:

“I think investors are growing a little bit fatigued with the seed investments they made two to six months ago that are almost going to zero overnight due to a single tech release, or what have you…because so many of them are OpenAI wrappers,” [Redpoint Ventures Principal Meera] Clark believes, referring to companies whose businesses rely on A.I. models like GPT.

How the Mania Happened

Shortly after OpenAI released ChatGPT, I saw a ton of startups like this. They amounted to ChatGPT with a slightly different look and feel.

That’s not defensible. But it is easy to pop up quickly.

Investors are always afraid of missing the next big thing. So people threw money at these companies. No revenue and a fat valuation were par for the course.

How to Spot a Good AI Startup

Now that founders have had more time to build, I’m seeing much higher quality AI startups. And as the initial buzz has begun to fade, valuations are looking enticing.

So how do we know a good AI startup from a bad one? I like to ask two questions…

1) How much of this can be done with ChatGPT?

This is why I don’t like most blogging tools. You can write a solid blog post on ChatGPT. You don’t need custom software to do it.

Even if your tool is a little better, people are used to using ChatGPT. The only way you’ll get them to switch is if you’re 10x better — a high bar to clear.

2) How easily can an incumbent add this feature?

Take the example of a generative AI startup that helps you make slide decks. It’s useful — but is it defensible?

Today, many people use Powerpoint or Canva to make a deck. Microsoft or Canva can just add an API call to OpenAI and pop up some generative AI features.

Once that happens, you’re in trouble.

You’re asking people to change their habits and switch to your platform. And you’re trying to charge for what Powerpoint is giving away.

You’re going to lose that battle.

An AI Company That Got it Right

If you can’t do the job with ChatGPT and incumbents can’t easily take your business, now I’m interested. A good example would be my latest investment, Micro1.

Micro1 finds top engineers by scanning their resumes with GPT-4. Then, it teaches them to be more productive coders by using GPT-4.

You can’t do this with ChatGPT, and there’s no easy way for incumbents to match Micro1’s offering. These thoughtful implementations of AI make great bets.

Wrap-Up

Investors shouldn’t lose hope in AI. The opportunity is massive — perhaps the biggest in our lifetimes.

We just need to evaluate each company soberly, like any other investment.

Does it deliver real value to the customer? Is it defensible? Does the price make sense?

If I can answer yes to all three, I’m making the bet.

Are you investing in AI? Why or why not?

Leave a comment and let us know!

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