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This article posits the existence of the « 10X rule” in seed and venture capital, where investors have an implicit goal of multiplying their invested capital. If a venture capital fund injects €1 million into a startup in exchange for often a minority stake, it will aim for an « exit » equal to or greater than €10 M to achieve its financial goal. Median performance in terms of exit value for startups funded by venture capital, supports the assumption of the 10X rule and allows for a quick estimation of the minimum valuation target for a startup at the time of its sale.
E. Krieger
Venture capital is a particularly demanding discipline in terms of creating financial value. Investments in startup capital aim to accelerate the development of carefully selected companies to enable investors and founders to achieve significant capital gains upon exit. This exit is planned within less than 10 years, even though the pursuit of liquidity is a challenge in itself, and effective exit timelines exceed 7 years for half of the companies funded by venture capital funds.
A few simple calculations help understand the challenge these investments pose in terms of the overall exit value goal for funded startups.
If you raise €1 million in exchange for 20% of your startup’s equity, you value it at €5 million post-money since your investors subscribe to new shares representing one-fifth of the company. In reality, you have valued your startup at €4 million pre-money (before the investment), and you retain your shares, which now constitute 80% of the company’s equity.
Post-money valuation and « money-multiple » goal for investors
If your investors aim to double their investment within 5 years, and no new capital increase occurs in the meantime, your company must be listed or (more commonly) sold for an amount equal to or greater than 2 × €5 million = €10 million, i.e., 10 times the amount invested by them.
A doubling of the investors’ investment within 5 years represents an annual return of 14.9%, which is not excessive considering the risk of « losing everything » due to the particularly high failure rate among startups.
A similar reasoning helps understand the relevance of this « 10X goal » in terms of the future equity value: if you raise €1 million in exchange for 30% of your startup’s equity, you now value it at €1 million/30% = €3.33 million post-money. If your investors are more demanding than in the first example, both in terms of percentage and financial return, and their minimum goal is to triple their investment within 5 years without any new capital increase, your company must be listed or sold for an amount equal to or greater than 3 × €3.33 million = €10 million, again, at least 10 times the amount invested by them.
Median exit values confirm the assumption of the 10X rule
These order of magnitudes in terms of the percentage negotiated by investors align with the reality of early-stage financing rounds for startups. The investment bank Avolta indicates that the median percentage taken by investors in « seed » funding is 29% in exchange for a median investment of €1.2 million, and the median percentage in « Series A » funding is 28% in exchange for a median contribution of €3 million (2022 data).
This study also indicates that at the time of their sale, the median value of companies funded by venture capital funds is €38 million for a median funding of €4 million. This corroborates the 10X multiple to be applied to venture capital funding to estimate the target value of a startup at the time of its sale. In fact, our €4 million generates a resale value close to €40 million.
These amounts naturally fluctuate over time, but recent data support this « 10X coefficient, » which has the merit of quickly estimating the valuation target of a startup at the time of its sale based on the cumulative capital invested since its creation.
In 2021, the median value of companies funded by venture capital funds at the time of their sale was €48 million, for a median funding of €3 million, resulting in a coefficient of 16 during a bubble period. When the market is euphoric, multiples soar, as do investor expectations. However, our « 10X coefficient » remains a useful reference in initial analysis.
If you are an entrepreneur, these orders of magnitudes help grasp the value to create if you seek investors. In this case, you can see if you can do better in terms of resale value: more quickly and with less (or more) capital than the mentioned median amounts.
Beyond Excel-derived fantasies
Median values are interesting indicators of central tendency as they are not sensitive to extreme values that impact average values, which are, by nature, less informative.
If you manage to finance your startup through venture capital funds, you can try to develop it more quickly and advantageously than these median data, both in terms of timing and resale value. However, reality is not always as simple as an Excel simulation. This explains why venture capitalists strive to select exceptional teams capable of creating considerable economic and financial value in a few years.
When a startup triumphantly announces a funding round of €15 million in Series A, you can deduce that its investors anticipate a resale equal to or greater than €150 million… which is only the case for 12.5% of startups funded by venture capital professionals, or one successful startup out of 8. Be assured that the pressure on management will be commensurate with the stakes.
Exegesis of announcements regarding funding rounds of future unicorns
Keeping this « 10X » rule in mind, in 2021, when valuations reached peaks and money flowed abundantly, startups that raised funds equal to or exceeding €100 million were destined to become unicorns, valued (sold or listed) at more than one billion Euros in the long term. In the meantime, several of them went bankrupt, including « rapid delivery » startups whose value proposition’s strength could legitimately be questioned.
Venture capital is a discipline suited to outstanding teams venturing into huge markets (exceeding €1 billion) with exceptional value propositions… but it remains a particularly Darwinian activity since 50% of investments in startups result in a loss (source NVCA), and only 5% of investments generate a multiple equal to or greater than 3 for the funds involved.
