I have a thesis and it is strictly around how much money I put in at the beginning, the amount I want to own of the company and that is directly connected to the valuation or cap.
I am about to go on a rant.
10 years ago the valuations were very different. In the past decade I’d say on average the first round of most of the companies I invested in had a $3 – 5 million cap. Considering that the entrepreneur had spent some serious time building out the company, gaining traction, flushing out the product, etc. I was ok with that valuation. I figure if we all believed that the potential was there that it was ok to start at this price.
Fast forward. In the past week I have talked to more entrepreneurs that are raising rounds post their “friends and family” of $300-500K with new valuations at $6.5-8m. Keep in mind the majority of friends and family rounds have no cap on them. Companies are saying that they need $2m now not $750K but a bigger chunk of cash to grow. Really? There is something to be said for being scrappy with $750 and proving out the model before going in for the big check.
Who is pushing up these valuations? Accelerators and egos. I can’t decide what is worse. The insane valuations that means that the next valuation will be bigger, the expectations are much higher and the exit needs to be bigger and bigger and bigger. Or the swagger and cockiness of some of the entrepreneurs who are getting feedback from investors who are telling them that they should definitely raise that much. I know what happens. I have been in those movies. Many investors say definitely and do nothing. They don’t write the check, they don’t move forward and then that entrepreneur has to rethink the raise, the people they are talking to and everything else. The entrepreneurs then come back with their tail between their legs. The first step is important and when you have little traction, a barely proven product and really zero revenue then the valuation should reflect that.
Maybe I am just talking to some of the wrong entrepreneurs. It isn’t about the amount you think your company is worth today it is about what you make it worth. I would be applauding an entrepreneur that started low, raised enough that allowed them 18 month runway, did it again and figured out the model to the point that their valuation then reflected what they had built. I have always said if the company is proving itself there will always be an investor. Now I fear that you don’t even have to prove yourself to find an investor. Is that a bubble? I am not so sure but it is certainly not a good thing.
How do these companies get to the valuation with very little in hand? I just don’t get it and I am pretty sure I never will.