Last week I was reminded of just how different the world is for startup financing when the business has proven metrics. Exactly 11 years ago, Adam and I went out to raise money for Pardot. At the time, we had a little over $1 million in recurring revenue, 300% year-over-year growth, and a repeatable customer acquisition process in a big market (team, stream, and not a meme).
We talked to 29 different venture firms from Atlanta to Durham to D.C. to Boston to Silicon Valley sharing the story as to why marketing automation was the next big thing. Only, to our disappointment, there was almost no interest. Marketing software was viewed as a poor category. Where were the big winners historically? Marketing spends money on advertisements and trade shows, not on technology.
From the VC conversations, two were interested in giving us a term sheet. The first one presented us a verbal offer and said they’d like to lead the round at a $2 million pre-money offer. $2 million! Less than 2x run rate! Now, mind you, this was late 2009 in the heart of the Great Recession. The second, and final, firm that was interested, said they could do a $7 million pre-money, but only if we sold 40% of the business to them. 40%! Thankfully, Bill Gurley shared with us that we shouldn’t raise money because we already had a business that was working, no investors, and maximum optionality should a good offer come along (it did!).
Today, the world is very different for a startup with proven metrics and traction. Now, there’s an abundance of capital and 0% interest rates pushing up asset prices. Looking at the BVP Nasdaq Emerging Cloud Index, the enterprise value to revenue multiple is 17.8x. Put another way, the valuation of a fast-growing public SaaS company is 18x revenue. 18x revenue! Of course, these are market-leading public companies with tremendous scale, so the private markets would take some haircut on valuation depending on a number of factors (see valuations as a Rule of 40).
For entrepreneurs with proven metrics, the calculus on raising money is different now. Before, frankly, the spreadsheet math didn’t make sense to raise money. We were growing fast enough to be relevant and were on a path to build a business large enough to matter. Now, with valuations so much higher, markets so much bigger, and investors happy to provide secondary to founders, entrepreneurs can get cash for their business, grow at even faster rates, and put money aside personally to diversify.
In light of how friendly the times are for entrepreneurs, it’s still important to think through, in advance, what the end game might be for the business and to not sign up for something that is overly burdensome. For example, in order to raise money at loftier valuations, some investors require blocking rights on a potential exit if they don’t get 3-5x their money. This is likely fair to the investors for the premium they’re paying now. Only, by setting the minimum outcome to a much higher bar, other, potentially more attainable outcomes, are eliminated.
Entrepreneurs would do well to get the best valuations, with the fewest strings attached, and the most optionality for the future. While that trifecta seems lofty, with today’s capital abundance, it’s more possible than ever.
One thought on “Startup Financing in the Age of Capital Abundance”
Great contribution David!
How do you see small check angels participating in the ecosystem at a time when VC is getting earlier and earlier due to the increase in capital hitting various ecosystems?