If your LinkedIn is anything like mine, there’s a new tech company with a gimmicky AI solution posting about a $6M round off of a few nights of vibe coding and a ChatGPT memo – back into the valuation, and it’s probably a $30M post-money valuation.
Everybody talks in post-money terms. People forget that pre-money value is the company's actual value.
The post-money number is easy to use, but the pre-money number is reality. If you raise less $$ at the same “post,” you’re actually increasing the valuation of the company. Most founders don’t catch that, but investors do. The model begins to break.
VCs have to be disciplined in their pricing and terms.
Imagine a fund writes a $1M check for 5%. A few rounds later, dilution hits. That 5% shrinks to something like 2%. Now the company has to sell for a massive amount just for that one investment to matter. If the fund is $50M, the exit has to be $2.5B just to return the capital! i.e., you need an exit at least twice as big or multiple massive exits to hit – the math is hard.
Why take such a big risk for so little return?
When valuations creep up, the margin for error collapses. Founders need to realize this is why VCs are disciplined on valuations. There’s a lot of noise with “median valuations,” which are being driven by certain company demographics. That said, one of our learnings is to be open-minded and pay up for valuations when it makes sense, but it’s on a case-by-case basis, and at the portfolio level, you must have discipline. Investing at high valuations across every investment breaks the portfolio math, especially when it’s not one-size-fits-all; some companies have smaller market opportunities and/or lower exit multiples.
If VC funds see their margins decline, they’ll have a harder time raising capital going forward. That will reduce the number of early-stage emerging VCs, increase mega-fund consolidation, and shift capital toward pedigree. When funding dries up, fewer startups get funded. High prices today = less capital tomorrow.
Multi-billion-dollar funds are happy to spend $2 million on an expensive pre-seed round. It gives them the option to follow that company and invest tens or hundreds of millions of dollars in it in the future.
That $2 million round is really just the cost of an entry point into the relationship for them. A lot of founders I meet look at those YC companies and say, “Well, I have a competitor out of YC, and they raised X amount,” but that's a horrible comparison. It's not apples to apples.
The valuations that people are paying at the pre-seed stage are much higher than they used to be. Maybe if the expected outcomes are now $10B vs. $1B, but those are few and far between.
If you’re raising VC, you have to be comfortable with giving up a fair percentage of your company.
VC is one of the most efficient markets – founders need money to scale, and VCs have money to deploy, but when it becomes too lopsided on one side, efficiency breaks down.
If you’re building and need money to scale, we’d love for you to pitch us.
