Personally, I feel sad and betrayed but understand the reasoning why. They mention it's lower risk to bring the person on even though I'm doing a decent job at the moment. I have done nothing that would bring doubt to my skills besides not being experienced. My team mentioned it would affect their morale because they trust me and my leadership and mention that there could be a chance they leave because I won't be the CTO anymore.
I tried to fight for my position but it was me still with the company or being fired.
Personally, I am for staying even after the fact due to my want of success for the company and everybody.
My question is, should I have fought for my position and continue the journey with me being CTO even with the risks? My gut says to fight for it, but I do see the reasons why not as well. My team trusts me and my leadership but the VC and CEO does not.
If not, it's just a job anyway, and if the CEO really doesn't want you there, you're probably not going to be happy even if you somehow win this fight. In which case, I say negotiate as hard as you can for the best possible severance deal, preferably cash in hand and not equity, and then move on to your next thing. Wish them luck if you feel like it.
In the end, remember that you are not defined by someone else's judgment of your merit and abilities. The only that matters is your view. Go start something new, and kick ass. Laugh at those guys when you roll past them on the street in your Aston Martin Victor.
You haven't talked about what you want -- that might be worth thinking about, when you're in a place where you can mull it over in a fairly unemotional way.
Do you want: enough wealth to be retired in 5 years/buy a house/whatever; a C-suite job with high status ; a job with a large degree of autonomy and responsibility ; to gain experience growing an engineering organization ; to gain experience shipping a great service/product ; revenge ; ...
edit: it is also possible to reframe things as: different people can be a good fit for different phases in a company's lifecycle -- instead of staying with a single growing company for a long time, there could be a quite interesting and profitable career in jumping from early-stage company to early-stage company and helping them get on a good trajectory for future expansion
I do know this - this decision will affect more than just you, and you see that based on how the rest of your team is reacting.
I would recommend you listen to this talk from Ben Horowitz lecture on YC's How to Start a Startup series. It goes over a similar situation that you are experiencing with being demoted. It will give you perspective.
Here's a link. It's lecture 15 in the series: https://startupclass.samaltman.com/
If things go great maybe the outsider leaves and you slide in and replace him with the extra knowledge you gained from working with him.
If things don't go great then it wasn't your fault when you're interviewing for your next role.
the problem is they didn't communicate to you what you really need to be doing and you didn't realize it. it might be that technically you are doing everything right, but politically you are doing it all wrong. working is not just about doing the actual work, but also about the performance of a work.
with that said, if you believe in the company, mission, product, then don't think much about it. you can become director of engineering, vp of engineering, etc. find a way to make yourself very useful and keep contributing. ... imagine this company was the next google, facebook, amazon, would you leave? so back to the question, do you believe in the company, mission and product?
for all you know, the new CTO might actually hate it and quit in less than a year.
If you're still not getting the hint, it's an opportunity for you to build some side-business, an additional stream of cash-flow.
Cash-flow is king, not corporate positions.
so have you delivered anything sellable yet? Sometimes VC funded companies arent all about burning the seed round while having a good time.