Sunday, June 30, 2013

Y Combinator's Startup Math

Paul Graham has a great essay out in which he explains his view of both Y Combinator and the startup ecosystem.  As usual, it's a thoughtful essay with a lot of great points.  But what I'd like to focus on are the numbers he provided on YC's portfolio:
http://bit.ly/13kaUV5

"Y Combinator has now funded 564 startups including the current batch, which has 53. The total valuation of the 287 that have valuations (either by raising an equity round, getting acquired, or dying) is about $11.7 billion, and the 511 prior to the current batch have collectively raised about $1.7 billion."
The usual caveats apply; valuations are a guess at value--the eventual value might be much lower...or much higher.  Nearly half of the YC startups don't have a valuation, since they raised money via convertible note.  As a result, the $11.7 billion is probably an underestimate of the total value of YC's portfolio companies.  Nonetheless, it is probably a reasonable number, and unlikely to be off by an order of magnitude either way.

So what can we see from the numbers?

The average valuation across the 287 startups that have them is a little under $41 million.  If you look at all 564 startups that drops to a little under $21 million.  To avoid being accused of hype, I'll use $21 million as the figure for my calculations.

1) The average YC founder is a millionaire.  Assuming that the average founder has a 25% stake after co-founders and investors are taken into account, he or she is sitting on 25% of $21 million, or about $5.2 million in equity.  No wonder people are eager to get in!

(Note of course that this is the mean result; as Paul points out, most of that $11.7 billion comes from the big winners in the portfolio.  Take out the top 10 startups, and the remaining 554 startups are worth $3.1 billion, or about $5.6 million each.  But the same dynamic applies to any VC firm or angel investor, so it's not fair to reverse cherry-pick.)

2) YC is a money machine.  YC invests about $20,000 per company, and takes a 6% stake.  Even assuming dilution to 3% by follow-on rounds, their $11.3 million in seed funding for 564 startups is now worth a cool $351 million, for a 30X gain.  YC does a lot more for its startups than the average investor, so there's a lot of sweat equity involved, but I'd still take those numbers any day.

3) It's still tough to be an angel investor.  The average valuation at which investors get into YC companies is probably around $8 million (higher now, lower in the early days).  $21 million represents a better than 2:1 cash on cash return, but still trails the traditional 3X multiple that's considered a success in the venture business, considering the illiquidity and risk.  And as I've noted in the past, YC's portfolio is probably well above-average.

But, if you got into some of the big winners and kept investing during later rounds, you'd probably get a much better return; the key, as always, is to double down on the winners.

2 comments:

Dave said...

Funny to talk about averages when we all know this industry is dominated by power law distributions instead. So, sure, all those founders are millionaires on average, but very few of them actually are today and even fewer will actualize that wealth in any appreciable way. Nice marketing, but it only continues to perpetuate myths about the magical riches of startups and Silicon Valley.

Chris said...

Dave,

The power law distribution is a good point. This is why it's so much riskier to be an entrepreneur than a VC; by spreading bets across 20+ startups, a VC tends towards the average return.