Inside-led rounds happen all the time for good reasons - including making a funding process fast so that management can focus on building the business - but because these decisions are not arms length, they cannot be trusted as an objective indicator of market value. This is one of the reasons why many venture capitalists prefer not to lead subsequent rounds: pricing decisions can no longer be objective, because investors are effectively on both sides of the table at the same time. They face a conflict of interest, because they are rooting for the success of the startup and generally want the company’s stock price to keep growing to show momentum. Insiders are investors who have previously placed capital in the startup. The lead may be an “inside” investor already, committing small amounts, or - believe it or not - simply not care. While the lead investor who set the price may be experienced, there are many reasons why the price she set may not be justified. If a big name VC thinks the price is okay, it must be a good deal, right? Here are three common lies we tell ourselves as investors to rationalize a potentially undisciplined valuation decision: By definition, everything is fairly predictable, so price-to-revenue and industry multiples make for easy math.īut at the seed and early stages, when forecasting is nearly impossible, what tools can investors apply to make pricing objective, disciplined, and fair for both sides?įor starters, venture capitalists need to stop engaging in self-delusion about why a valuation that is too high might be okay. So when entrepreneurs use unicorn aspirations to pump private company valuations, how can investors plan for a decent return?Īt the growth stage, we can easily apply traditional financial metrics to venture capital valuations. ![]() I’m frequently asked by journalists whether I think venture capital valuations are too high in the current environment.īecause the average venture capital fund returns only 1.3x committed capital over the course of a decade according to the last reported data from Cambridge Associates, and 1.5x according to Pitchbook, I believe the answer is a resounding “yes.” How to apply discipline to pricing in early stage venture capital By Scott Lenet, co-founder and President of Touchdown Ventures.
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