Tomasz Tunguz - The Three Eras of Startup Valuations
Tomasz TunguzVenture Capitalist at Redpoint If you were forwarded this newsletter, and you'd like to receive it in the future, subscribe here. The Three Eras of Startup Valuations
I used to have a clear answer to a founder’s question, “How do you value a company?” The question is just as important in conversations within a VC partnership as with founders. A valuation must have some justification to be compelling. Reflecting on this question a founder posed this week, I remembered how we came to be here, the three eras of startup pricing: cash-flow, multiples, and discount-to-future-value. Cash Flow Add a quarter or two of burn as an insurance policy. Voila! The art of startup pricing in a recipe. $5m on $25m post. Multiples Forward revenue multiples gave way to forward ARR multiples. ARR figures are more aggressive still. They are the run rate of a business, not recognized revenue. But, these startups grow faster than the public companies so the market should give them the benefit of the doubt. The market priced companies at 10x forward ARR, and as the venture asset class grew from $30b to $300b+, forward ARR multiples eclipsed their double-digit roots and grew by an order of magnitude. Last year, 100x, 200x, and 400x multiples graced term sheets and greased board room approvals. Discount-to-Ultimate-Value If Salesforce is a $200b company and a CRM startup captures 1% of Salesforce’s market, the startup’s a unicorn. If we buy 15% of that company for $10m, we can make a 10x. Home-office rodeo redux. Web3/crypto startups are often priced this way. Ethereum sits atop a $350B market cap perch. 1% of Ethereum for the next L1 means a $3b company, a triplicorn. But when the valuations of these comparables fall significantly, say more than 60% as software publics have, the initial investment case and price justification suffers. The startup needs 60% more market share to be worth the same. Today Justifying a price is now some combination of these three depending on the company, the auction pressure, and the public market comparables, and the investment philosophy of the VC. That’s why startup pricing is so uneven, murky, and sometimes gobsmacking. The market isn’t aligned on a pricing rubric. We’re in between pricing eras. |
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