How VCs Price Deals

At some point in your career you may encounter the VC or PE world (see helpful list). You might: sell a non-core subsidiary to them, use their funds to start a company, use their money to buy a company, or buy out your partners, or even take a company private from the public markets. Whatever the transaction, their pricing model seldom varies.
The VC needs to value the business before their money goes in and of course on exit. Depending on their perceived risk they will be shooting for an Internal Rate of Return (IRR) of 40% to 60% or in plain English they expect their money to produce a compound annualized rate of return of vast proportions. Now many of their deals will not work out so they need to aim high. In two tables below I have summarized a fictitious example based on many deals completed.

The target company is purchased for $16m using valuation methods described in my previous Briefing Paper #4, let’s assume this time it’s based on an EBITDA multiple of 8 on $2m. It is assumed to exit in 2014 for an EBITDA multiple of 10 on $6m EBITDA. The VC exits the deals owning 65% of the equity. The VC expects to achieve an IRR of 47.85%.