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Why did late-stage valuations skyrocket?

It's no secret that valuations spent the last 24 months on an incredible run.

However, the conversation has often centered around early-stage multiples. We often see comments in the neighborhood of "this company raised at a $1B valuation with only $2M of ARR (or none)".

Source: Pitchbook

Yet, late-stage valuations have been on an even steeper upward trajectory for two primary reasons:

  1. Financial sponsors focused on the public markets realized that as a result of companies staying private longer and the market's appetite for high-growth tech, IPO prices were getting higher.

    The average IPO valuation in 2020 was $4.5B compared to $850M just five years before. Investing in a pre-IPO round at $2.4B cuts their entry price almost in half, so even if they are taking on more risk, the risk-adjusted outcome is likely better.
  2. Public market financial sponsors have lower return thresholds for investment and can absorb higher prices for the same exit value.

    Depending on the strategy, venture capital and private equity sponsors typically aim for 3-5x returns with IRRs in the mid-20% range.

    Public market investors look for the mid-teens. Given the same outcome expectations, entering at a high price still allows them to project the target return they desire.

2021 IPOs are down an average of 10% as of mid-January. If that trend continues, it's likely private late-stage valuations will be the first to feel the impacts of the public market correction as crossover investors realize the instant public market appreciation isn't what it once was.