TBC: High Valuations vs. Simple Structure

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Yeah, welcome to another episode of the back channel. In today's episode, I want to talk a little bit about maximizing valuation versus minimizing structure. So what do I mean by that? There have been a few situations throughout my career. And most recently, when I was talking to a founder about, around that they had done. In difficult times in difficult fundraising markets. And what comes up in some of these conversations are negotiations around valuations.

And when people start negotiating around valuation, There are situations where both the founder. And the investor. Wants to make the most out of evaluation. So let me, let me just grab. I think it's pretty obvious that a lot of founders want the highest valuation. It can, um, It can relate to a lower amount of dilution. It can relate to a [00:01:00] large ego number, hitting a big round number, like a hundred million dollar $50 million valuation. Now, there are also situations where an investor might want a higher valuation than maybe the market should be accepting of one.

Would those reasons be. Well, if an investor had, um, previously invested in the company at a certain number, And didn't want to go back to the partnership or didn't want to show the LPs that they were backing a company. That was slipping or at a different valuation instead what, the, one of the nominal number to at least be flat, if not a little bit of a step up. There are situations where they want to protect their face.

Save face. To their partnerships. So in both situations, That. So there are situations in both camps where the parties would want a higher valuation. Now a lot of times when that happens, the way to do that. [00:02:00] Is well. This founder really, really wants to get to a hundred million dollar valuation. But you as a VC. Don't want to give them a hundred million dollar valuation.

You don't think they're worth it. You think they're worth more like an $80 million evaluation? There are ways to put structure into a deal in order to make the effective number and the effective ownership. Be more like the lower valuation that you,feel comfortable investing at?

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There are things they can add, like liquidation preference to make sure in a downside scenario, they get paid multiple times over on their investment. Even if the company isn't doing that well. They can have participating preferred stock, which allows them to have a kicker on top of what they're doing, even in an upside scenario. Um, they could add dilution protection, um, dividends that [00:04:00] they get.

They could talk a little bit about adding warrants on the side so that the nominal amount looks like this, but they got essentially additional equity that wasn't reflected in the, in the valuation, the nominal valuation that you gave. There are a lot of these different pieces of structure and complications to a deal that can allow evaluation to look higher than it actually is. What I would say to all of you is in either of those situations, whether you're the founder that has a bit of an ego wants to maximize valuation and just get to that number. It's almost always, actually I'll say it's always better to go with the simpler deal terms.

Okay. Make sure it's as clean as possible when you move forward because that additional complexity. Adds friction to your later rounds. It really does. When VCs are looking at deals, ones, even that they're excited about. Kind of always looking with their spidey sense for things [00:05:00] that just don't look great.

They're looking for reasons to pass on deals and you don't want to give. Investors in future rounds, more reasons to pass, and then they already have. Okay. So when you're thinking about raising around, when you were getting to that stage of negotiation, I know there are reasons why you want a higher valuation. Uh, but one of them should not just be to get to a nominal, nominal number.

And if a VC tries to placate you by adding structure on the deal, Try to come and take a few steps back, talk to your lawyer, talk to your other people about what the effective valuation really looks like. And then land on a number and a simple set of terms that both sides can agree on. All right. Hopefully this quick episode about valuation and structure leads, you. To actually go after a simple deal. All right. Till next time, I'll see you on the back channel.

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