For the Youngest Startups, No Billions; Valuations Soar for a Select Few, While Many Early-Stage Ventures Struggle

For the Youngest Startups, No Billions
Valuations Soar for a Select Few, While Many Early-Stage Ventures Struggle
March 19, 2014 7:31 p.m. ET
Young companies thinking they might be worth billions may need a reality check.
Despite the hubbub over select startups such as WhatsApp, the mobile-messaging app bought by Facebook Inc. for $19 billion, first-round valuations for U.S. startups fell last year, data show, even as later-round valuations surpassed levels of the dot-com era.
Seed-round funding valuations—set as a business prepares to launch, or soon after—dropped nearly 30% in 2013 to nearly $2 million, from $2.7 million in 2012, and less than half of a $4.8 million high set in 2000, according to Dow Jones VentureSource. Likewise, first-round funding valuations fell 28% to $5 million, from $7 million in 2012, and $12 million in 2000.

Slightly more established startups seem to be better off: Private companies that were up and running and which got third- or later-stage venture-capital financing rounds last year saw a median valuation of $103 million, up 61% from $64 million in 2012 and surpassing a previous high of $89 million in 2000, according to VentureSource.
There were 3,480 equity-financings in 2013 into U.S. venture-backed companies, totaling $33.08 billion, according to VentureSource. The valuations are “pre-money,” meaning they are set just before receiving a venture-capital investment.
Part of the problem, venture capitalists say, is that it is hard to come up with a value for small companies that don’t have revenue or profits yet. “Valuing early-stage companies is an art, overlaid with science, and a lot of supply and demand,” said Nick Beim, a partner at venture-capital firm Venrock Associates in New York.
Overall, it is only a small group of startups, such as messaging service Snapchat Inc., that can gain quick traction with users, and thus draw intense investor interest—despite the risk of failure. “It’s just rare that companies capture the lightning in the bottle that causes them to grow so quickly,” said Jeremy Levine, a partner at Bessemer Venture Partners whose portfolio includes scrapbooking website Pinterest Inc.
So unless they have a hot new technology, investors are hesitant to give very small firms big valuations. Initial public offerings of companies valued under $50 million represented 80% of the IPO market in the 1990s, but are less than 20% of the market today, according to David Weild, chairman of investment bank Weild & Co. and former vice chairman of the Nasdaq Stock Market.
According to Mike Carter, CEO of BizEquity, a Wayne, Pa., based online small-business valuations firm, the value of small private firms align more closely with growth in gross domestic product, rather than the ups and downs of the stock market. That’s because they are largely set on revenue and earnings, he adds.
In its analysis of more than 950,000 debt or equity-backed ventures with less than $50 million in revenue, BizEquity found that average inflation-adjusted valuation was $1.8 million in 2013, up only slightly from $1.77 million in 2012, and unchanged from 2001. Some of the businesses in its data pool are in wholesale trade, transportation and warehousing, and public administration—industries that aren’t the type a venture-capital investor would typically put money into.
Marianne Hudson, executive director of the Angel Capital Association, a trade group of early-stage investors, says it is much easier to launch a technology startup today, thanks to the Internet, cloud-based software and cheaper hardware: “The cost of getting off the ground is getting lower, but that also means there is simply less value there,” she said.
At the same time, she added, early-stage investors are becoming more sophisticated and are better at valuing a startup now than they were a decade ago. That’s likely kept valuations for nascent firms from rising, and brought values more in line with the market, she added.
For some entrepreneurs, the soaring valuations of later-stage companies are an incentive to stay closely held as long as possible. Matt Voska, a co-founder of Flytenow Inc., a flight-sharing service based in Boston, said he is holding out on selling equity in the business until it is more established. “We’re bootstrapping for as long as we can, because the later you seek funds the better deal you’re going to get,” he said.
“My sense is that valuations of fairly young companies haven’t budged in the past 10 years,” said John Huston, manager of an Ohio-based group of wealthy individuals, or angels, who invest in tech startups. “We give them money today and hope that they will be more valuable in the years ahead. And that’s risky. It’s likely that many of these companies will be worth zero,” he said.
Supply and demand are also factors, he said, citing an explosion over the past decade in the number of accelerators and incubators, all fostering the creation of new businesses. As a result, he said, entrepreneurs are encountering far more competition for early-stage funding, as more startups hit the market. “I’ve never seen so many entrepreneurs seeking funding,” he said, adding that investors often have a set number of deals they can choose every year: “So we pick the very best ones we can find at any given time,” he said.

About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (, the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

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