A Midwest Take on an Algorithm for Seed Round Valuations

I recently came across a fantastic blog post by Leo Polovets titled ‘An Algorithm for Seed Round Valuations’.  In the post, Leo provides guidance on how to construct your seed/Series A round and process in a way that positions you for a successful outcome.

The post is a must read.  Too often entrepreneurs subject themselves to a painful fundraising process because they are either raising too much or too little, their valuations are way off from market or they misplay the process with multiple investors.  I believe this happens because the entrepreneurs do not have easy access to the data points Leo lays out.  So kudos to Leo on  the transparency.

For midwest entrepreneurs, I think everything in the post holds true outside of the valuation guidelines, which to me look like they represent companies on the coasts.  I have never met Leo, so I can’t say for sure, but I feel pretty safe making this assumption.  So here is my attempt on matching Leo’s valuation guidelines to what we at Arthur Ventures are seeing across the upper midwest.  My guidance is based 100% on term sheets I have personally seen on completed investments, whether we funded the deal or not.  There are obviously plenty of deals we don’t see, so this isn’t perfect, but I hope it helps.

  • Pre-product or alpha version of product
    • Leo: $3m-$6.5m. (Occasionally, exceptionally strong teams might raise at $8m-$10m with just an idea.)
    • My take on Midwest: First-time founders: $1M – $2M, closer to the low end of the range and extremely hard to pull off if you are pre-product.  Exceptionally strong teams or repeat successful entrepreneurs $3M – $6M.  $6M is the highest I have personally seen and it was for a founder with two very successful prior exits.
  • Beta version, a few pilot customers, $1k-$20k in monthly revenue
    • Leo: $6m-$9m.
    • My take on Midwest: $1M – $3M.  The initial reaction is probably ‘why is this so similar to the range for raising pre-product/alpha, I thought I’d get more credit for having revenue’.  I think the answer is that the credit for revenue does not come in the valuation, but the likelihood of completing the deal. It is much more likely you will be able to raise money at this stage vs. pre-product/alpha.  Also, companies start to get material credit for revenue when they approach $10K in MRR.
  • Fairly mature product, sales is still high-touch and case-by-case, $25k-$100k in monthly revenue
    • Leo: $7m-$14m.
    • My take on Midwest: $3M – $9M.  Yes, I realize its a big range.  At the low end we typically see companies with $25K – $30K in MRR that can support a raise of $1M+ that happens at $3M – $4.5M pre-money.  At the top end we usually see companies that are approaching a $1M run-rate (a little over $80K MRR) with their sale process becoming pretty efficient.  Those companies can raise $3M at a pre-money in the high single digits.  For companies that are somewhere in the range of $25K – $100K MRR, I think the pre-money valuations scale up and down quite linearly between $3M & $9M based on their traction.
  • Fairly mature product, starting to have repeatable sales process, $100k+ in monthly revenues.
    • Leo: $15M+ (This is Series A territory.)
    • My take on the Midwest: $10M-$15M+.  I would also agree that this is ‘real’ Series A territory of companies raising $4M-$5M.   This absolutely assumes an efficient and repeatable sales process.

So if I was an entrepreneur looking at this as a whole, the takeaway to me would be that the delta in valuations in the midwest vs. other larger more dense capital environments is the most  profound the earlier your company is and the less of a track record you have if you are raising pre-launch.  The valuations converge as you get more traction, for sure.  Does it ever get 1:1 as your business continues to grow?  I don’t know, I suspect there is always a gap, but I do think it continues to decrease as you successfully scale.

I’d love feedback from entrepreneurs and investors alike on the ranges.  If you have any additional data points or thought you’d like to share please reach out – patrick@arthurventures.com

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