In the area of venture capital, the prospect of a successful “exit” looms large in the minds of investors. A VC’s business model is less about the money that goes to a startup than it is about what comes out. It’s true that most companies fail to exit gracefully, and of those that do, astonishingly few exit by moving public. The majority of exits happen through mergers and acquisitions (M&A).
For most investors of this ilk, it’therefore not necessarily the magnitude of the exit that things; rather, the attention is set on the proportion of exit evaluation to invested funds (VIC). Crunchbase Newshas formerly covered exits that delivered large VIC ratios — or those that attracted “the largest bang” to the proverbial buck — and we’ve found that mobile and related businesses are especially fertile ground to get high-VIC M&A events.
However there are a couple of more typical questions to be asked and answered than in those posts. For example, from the perspective of VIC multiples, are bigger exits better? And are businesses that have raised less venture funding more likely to generate higher multiples? These answers are available.
But before getting into the weeds, let’s’s clear out several reminders and disclaimers. We’re not answering the question “Why are startups with less venture funding more or less inclined to exit? ” Crunchbase News has taken a stab at that question and found that, unless a startup raised less than around $9 million in venture funding, there isn’t a strong correlation between overall capital raised and chances of being obtained. And like that former foray into exit information, we’re only considering mergers and acquisitions because there’s a bigger sample set to be found.
If you’re interested in what kind of information we used for this particular investigation, skip towards the end of the article for notes on methodology. If not, read on for answers.
Big leaves are much better exits for multiples
If it comes to acquisitions, in general, larger is better if the goal is to deliver a higher proportion of evaluation to invested funds.
The chart below displays VIC multiple information on the vertical axis and the purchase value on the horizontal axis. Remember that this chart uses a logarithmic scale (e.g. based on powers of 10) on both axes to include the very extensive range of outcomes.
Based on the 225 acquisition events within this data set, there is a positive and statistically significant correlation between the last acquisition cost and VIC ratios.
A correlation such as this shouldn’t even come as a surprise. The vast majority of companies don’t raise over a few thousands of dollars, and 99% of U.S. businesses raise less than around $160 million, as Crunchbase News found last May.
So, for most businesses, acquisition values over approximately $50 million are far more likely to generate higher multiples. A well-known example is a company like Nervana, that had raised approximately $24.4 million over three rounds, based on Crunchbase data. Nervana was then obtained by Intel in August 2016 for $350 million, producing a VIC ratio of around 14.34x.
Obviously, the tendency for larger exits to create larger returns is just a rough guideline, and there are plenty of cases where large leaves don’t correspond with large multiples. Here are two examples:
- Men’s razor shipping agency Dollar Shave Club increased around $163.5 million from seed via Series D. It had been obtained by Gillette’s parent company, Unilever, for about $ 1 billion in cash in 2016. Though it had been one of the biggest startup acquisitions with a consumer packaged goods company in several decades, the trade netted a middle-of-the-road 6.12 VIC.
- San Francisco-based fintech startup Earnest had raised $119.1 million in venture funding across five rounds before a $155 million all-cash buyout by Navient Corporation at October 2017. The deal delivered a small 1.3 VIC ratio.
These latter two examples offer you a convenient segue into the penultimate section. There, we’ll explore the relationship between how much money a startup increases, and its proportion of evaluation to invested capital at time of exit.
Smaller war chests deliver larger exits
Dollar Shave Club and Earnest are examples of businesses that raised more than $100 million in funding but ended up providing leaves less compared to the vaunted 10x multiple that most venture investors appear to target. So is it the case that companies with less VC cash lining their pockets tend to deliver higher VIC multiples when they exit? The answer, in a nutshell, is yes.
In the chart below, it is possible to find a plot of overall equity funding quantified against VIC ratios at exit, again with a logarithmic scale to the Y and X axes.
From the sample of 225 acquisitions, we find a slight but statistically significant negative correlation between the amount of equity funding a startup has raised and the final VIC ratio.
And here, also, the outcomes shouldn’t be that surprising. After all, as we found in earlier examples, a lot of venture funding can weigh down a organization’therefore odds of having a significant exit. It’s simpler for a startup with $1 million in venture funding to be obtained for $10 million than it is to get a company with $100 million in VC financing to exit for $1 billion also.
Of those businesses that managed to raise a lot of money and create an outsized VIC multiple, most of them are in the life sciences. Again, this isn’t astonishing, considering that industries like biotech, pharmaceuticals and medical instruments are astoundingly capital-intensive in the U.S. due to long trial periods and the large cost of regulatory compliance. Contrary to the mobile business, where a small amount of funds can go a long way, it typically requires a lot of money to create something of serious value in the life sciences.
Multiples thing, but most exits are still good exits
The goal of investing is to get more money from you put in. This is true for investors which range from pre-seed syndicates all of the way up to enormous sovereign wealth funds. If we would like to clarify any exit with less than a 1.0 VIC ratio as “bad” and everything above 1.0 is “good,” then most of the exits in our data set, namely 88 percent of them, are good. Obviously, there’s some sampling and survivorship bias that likely leans in favour of their fantastic side. But regardless, most companies will deliver more value than was put to them, assuming they’re able to get the exit.
But supposing a company does find a buyer, we’ve found some factors correlated to higher VIC multiples. Larger deals correspond to larger multiples, and businesses with less funds raised can often send larger returns.
So while venturing out, it’s always important to keep your eye on the exit.
Methodology: A dive into exit information
There are a number of places we might have begun our investigation, and we opted for a fairly conservative approach. Using info from Crunchbase, we began with the listing of U.S.-based companies founded between 2003 and today. (This is what Crunchbase Newshas been calling “the Unicorn Era,” in homage to Aileen Lee’s first definition for the new breed of billion-dollar private businesses)
To make sure that we’re working together with the fullest-possible funding record, we filtered out all businesses that didn’t raise funds at the “seed or angel stage. &rdquo ; We further filtered out businesses that have missing round data. (as an example, obtaining a known Series A round, a known Series C round, but missing any record of a Series B round.) Startups that raised equity funding rounds with no dollar-volume figure related to it were also excluded.
We finally merged this set of businesses with Crunchbase’s purchase information to ultimately produce a table of acquired businesses, the amount of equity funding they raised prior to acquisition, the title of the company that purchased the startup and the amount of money paid in the deal. Again, by beginning with acquired companies for which Crunchbase has comparatively complete funding documents, the resulting set of 225 M&A events, while small, is more likely to produce a more robust and defensible set of findings.
Illustration: Li-Anne Dias