I love working with numbers and I hope you do too. After all, business does come down to numbers—increasing the number of customers served each year, reducing costs, improving gross profit margins and then counting up your profits.
Trust me, though. What you show as your projected revenue and earnings growth will not be the only numbers that investors consider about your business.
Since most investors get their money back from the sale of a company to another business, investors think a lot about how big a company’s valuation can grow to over time. The bigger the better.
In general, angel investors expect to get their money back within 5 to 7 years with an annualized internal rate of return (“IRR”) of 20% to 40%. Venture capital funds strive for the higher end of this range or more.
So how big does a company have to grow to in order to achieve a venture-friendly rate of return?
As the table demonstrates, the greater ownership percentage an investor has in a company, the less the company’s value has to grow to in order to achieve a venture-friendly return.
| Build Value on Purpose |
| % Ownership of a Company Required to Deliver 30% IRR |
| Investment Amount |
| $2M | $4M | $6M | $8M | $10M |
| Company Value | | | | | |
| $20 Million | 48% | 96% | <30% | <30% | <30% |
| $40 Million | 24% | 48% | 72% | 96% | <30% |
| $60 Million | 16% | 32% | 48% | 64% | 80% |
| $80 Million | 12% | 24% | 36% | 48% | 68% |
| $100 Million | 10% | 19% | 29% | 38% | 48% |
If, for example, a group of angels invest $2 million in a company, and own just 10% of the company at the time of exit, then the company would have to grow to be worth $100 million to deliver a 30% return over a six year period. That’s a big valuation gain in a short period of time!
Caveat: If the company was sold successfully in less than six years, then the IRR returns noted above would be higher than 30% because of the time value of money.
Investors know that building a company up to be worth $100 million is exceptional (and unusual) performance. It’s why most savvy investors ask for a larger percentage equity stake at the time of investment. The extra percentage ownership helps compensate them for risk plus gives them a better chance of reaching a 20% to 40% IRR.
Now that you know more about the relationship between a company’s valuation at the time of business sale and percentage ownership, you can evaluate your business strategies in a more purposeful way.
Consider, what is it about your business that other companies will want to buy in the future that will boost your company’s value. If you want some ideas on the factors that tend to boost a company’s value at the time of sale, read chapters 3, 7, 10 and 11 of Start on Purpose.
FAQs
A good return on investment is generally considered to be about 7% per year, which is also the average annual return of the S&P 500, adjusting for inflation.
Is 7% return on investment realistic? ›
Tack on things like fees and taxes, and even 7% is probably a relatively high long-term return assumption for a portfolio, especially based on market forecasts today. Had you been invested in a balanced portfolio, your return after considering volatility and inflation would have been closer to 5%.
What rate of return should investors expect? ›
Most investors would view an average annual rate of return of 10% or more as a good ROI for long-term investments in the stock market. However, keep in mind that this is an average. Some years will deliver lower returns -- perhaps even negative returns. Other years will generate significantly higher returns.
Is an 8% return realistic? ›
As a result, the 8% rate of return is a surface-level indicator of the investment's performance. In an environment with high inflation and taxes, your real return could be next to nothing. That said, investments can still be an excellent source of retirement income.
What is the typical return for an investor? ›
The average stock market return is about 10% per year, as measured by the S&P 500 index, but that 10% average rate is reduced by inflation.
Is 12% return possible? ›
The reality is that you can! There are mutual funds out there that have averaged 12% annual returns over the course of their history—you just have to know how to look for them. But before we go there, let's cover some of the basics about the average mutual fund return that you need to know about first.
What is a good return on a $500000 investment? ›
Average Rate of Return: This is more difficult to calculate because by their nature private equity firms and hedge don't always report their losses and earnings. However, most estimates suggest that you can expect average returns of up to 14%.
How much $1,000 invested in S&P 500 in 1980? ›
In 1980, had you invested a mere $1,000 in what went on to become the top-performing stock of S&P 500 (^GSPC -1.73%), then you would be sitting on a cool $1.2 million today. That equates to a total return of 120,936%. The stock? None other than Gap (GPS -6.10%).
How much money do I need to invest to make $3,000 a month? ›
If the average dividend yield of your portfolio is 4%, you'd need a substantial investment to generate $3,000 per month. To be precise, you'd need an investment of $900,000. This is calculated as follows: $3,000 X 12 months = $36,000 per year.
Is 10% return unrealistic? ›
That often cited 10-per-cent return for stocks based on the post-1950 period is roughly equivalent to a 7-per-cent real return in the historical data. That is about 2 per cent higher than unbiased estimates of U.S. expected returns, U.S. equity returns before 1950 and global stock returns spanning 1890 through 2023.
It's important to carefully research and monitor the market, diversify your investments, and consider a long-term investment strategy to potentially achieve your financial goals. Swing trading or positional trading is best to make 20% ROI .
What is the 70% investor rule? ›
Basically, the rule says real estate investors should pay no more than 70% of a property's after-repair value (ARV) minus the cost of the repairs necessary to renovate the home. The ARV of a property is the amount a home could sell for after flippers renovate it.
Do investments double every 7 years? ›
How the Rule of 72 Works. For example, the Rule of 72 states that $1 invested at an annual fixed interest rate of 10% would take 7.2 years ((72 ÷ 10) = 7.2) to grow to $2. In reality, a 10% investment will take 7.3 years to double (1.107.3 = 2). The Rule of 72 is reasonably accurate for low rates of return.
Is 7% return on assets good? ›
Return on assets (ROA) is a key gauge of a company's profitability. The ROA ratio measures a company's net income relative to its total assets. A good ROA depends on the company and industry, but 5% or higher is considered good.
Is 7 ROI good for real estate? ›
Generally, a good ROI for rental property is considered to be around 8 to 12% or higher. However, many investors aim for even higher returns.
What is the rule of 7% return? ›
Putting the seven percent rule into action is simple: Calculate seven percent of your gross annual income. For example, seven percent of $50,000 is $3,500. Divide this amount by 12 to get your monthly savings target.
How long does it take for 7% return to double? ›
Why it Pays to Know the Math
| Rate of Return | Rule of 72 # of Years to Double Money | Logarithmic Formula # of Years to Double Money |
|---|
| 6% | 12.0 | 11.9 |
| 7% | 10.3 | 10.2 |
| 8% | 9.0 | 9.0 |
| 9% | 8.0 | 8.0 |
15 more rowsSep 14, 2023
