Venture capitalists may value a solid $15M revenue company at zero. Their model is not built on backing good businesses, but on funding 'upside options'—companies with the potential for explosive, outlier growth, even if they are currently unprofitable.
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Mega-funds can justify paying "stupid prices" at the seed stage because they aren't underwriting a seed-stage return. Instead, they are buying an option on the next, much larger round where they'll deploy real capital. This allows them to outbid smaller funds who need to generate returns from the initial investment itself.
YC distinguishes startups from regular businesses based on their potential for exponential growth, aiming for billion-dollar valuations. Profitability alone defines a business, but not necessarily a startup—a key concept for aspiring founders.
The current fundraising environment is the most binary in recent memory. Startups with the "right" narrative—AI-native, elite incubator pedigree, explosive growth—get funded easily. Companies with solid but non-hype metrics, like classic SaaS growers, are finding it nearly impossible to raise capital. The middle market has vanished.
Unlike Private Equity or public markets, venture is maximally forgiving of high entry valuations. The potential for exponential growth (high variance) means a breakout success can still generate massive returns, even if the initial price was wrong, explaining the industry's tolerance for seemingly irrational valuations.
Top growth investors deliberately allocate more of their diligence effort to understanding and underwriting massive upside scenarios (10x+ returns) rather than concentrating on mitigating potential downside. The power-law nature of venture returns makes this a rational focus for generating exceptional performance.
The most dangerous venture stage is the "breakout" middle ground ($500M-$2B valuations). This segment is flooded with capital, leading firms to write large checks into companies that may not have durable product-market fit. This creates a high risk of capital loss, as companies are capitalized as if they are already proven winners.
The standard VC heuristic—that each investment must potentially return the entire fund—is strained by hyper-valuations. For a company raising at ~$200M, a typical fund needs a 60x return, meaning a $12 billion exit is the minimum for the investment to be a success, not a grand slam.
The venture capital return model has shifted so dramatically that even some multi-billion-dollar exits are insufficient. This forces VCs to screen for 'immortal' founders capable of building $10B+ companies from inception, making traditionally solid businesses run by 'mortal founders' increasingly uninvestable by top funds.
Seed funds that primarily act as a supply chain for Series A investors—optimizing for quick markups rather than fundamental value—are failing. This 'factory model' pushes them into the hyper-competitive 'white hot center' of the market, where deals are priced to perfection and outlier returns are rare.
VCs are incentivized to deploy large amounts of capital. However, the best companies often have strong fundamentals, are capital-efficient, or even profitable, and thus don't need to raise money. This creates a challenging dynamic where the best investments, like Sequoia's investment in Zoom, are the hardest to get into.
