The Role of Multiples in Venture Capital: Understanding Trends and Providing Context

Generational Divide Emerges in Venture Capital Investment Strategies

In the world of venture capital, the use of “multiples” as a tool for quickly analyzing company value has become increasingly common. However, a generational divide has emerged over the past decade, with younger investors embracing multiples more aggressively than their older counterparts.

So, what exactly are multiples and how should investors apply them? Multiples, which originated in public markets, are metrics such as EV/revenue, EV/EBITDA, EV/FCF, and P/E that provide different perspectives on a company’s performance relative to its share price. These metrics are used to determine whether a company is currently underpriced by the market.

Recent discussions in the venture capital community have highlighted the importance of understanding multiples and their role in investment decisions. For example, Mark Suster and Harry Stebbings discussed recognizing inflated valuations, while Bill Gurley, Brad Gerstner, and Aaron Levie talked about the market for software companies.

However, there are fundamental problems with relying too heavily on multiples in venture capital. One issue is the lack of data in private markets, making it difficult to find comparable companies and understand their financial performance. Additionally, pricing with multiples can be procyclical and may not accurately reflect a company’s true value.

Ultimately, multiples should be used as a tool to compare and analyze valuations, rather than as a shortcut for calculating them. By understanding trends and providing context, investors can make more informed decisions and avoid contributing to market bubbles.

Dan Gray, head of insights at Equidam and a venture partner at Social Impact Capital, emphasizes the importance of using multiples responsibly in venture capital investment. As the industry continues to evolve, it is crucial for investors to consider the implications of their valuation methods and strive for more accurate and informed decision-making.