Why VC-backed M&A is hard

DealMaking Intel #36

Sep 02, 2025

Hi, it’s Thomas from Positive Capital, M&A advisory dedicated to startups.

Deal Making Intel is an insider playbook about M&A Deal Making. Today, I'm writing about a common negotiation dynamics in VC-backed startup M&A.

A few weeks ago, I was discussing with a VC looking to sell one of his portfolio companies. He pushed hard to justify the price through the lens of strategic synergies.

It struck me as odd because, just a few years earlier, I was selling him a company for another of his portfolio companies. Back then, I made the exact same synergy-based pricing arguments. But his response was firm:

“I won’t pay twice.”

What he meant was:

First, paying for the right to access the target’s assets, which may enable future synergies.
Second, paying upfront for the value of those synergies means prepaying for work he still has to execute — if they materialize at all.

At first, I found the contradiction puzzling. Then I remembered Charlie Munger’s famous line:

“Show me the incentive, and I will show you the outcome.”

And suddenly, it all made sense. Valuation arguments aren’t objective; they’re shaped by incentives. What makes sense as a buyer is conveniently forgotten as a seller.

This contradiction isn’t just selective reasoning — it’s deeply rooted in the incentive structure of VCs. Indeed, VCs anchor their valuation expectations to book value — the last post-money valuation they reported to their LPs.

For a VC, book value isn’t just a number — it’s a performance benchmark. Their ability to raise future funds depends on showing strong paper gains. If a portfolio company exits below a minimum multiple of the last post-money valuation, it creates a negative signal to LPs, raising doubts about the fund’s trajectory.

This is especially problematic when a fund doesn’t yet have a “fund returner” — a single big exit that validates its success. In these cases, even a decent exit in real terms may be unacceptable if it doesn’t align with the VC’s book value needs.

On one hand, when a VC pushes for an inflated valuation in an M&A deal, it’s not just about getting the best price — it’s about protecting their track record, reputation, and ability to raise their next fund.

The negotiation isn’t just about numbers — it’s about optics.

On the other hand, I’ve written before that large strategic buyers see VC-backed acquisitions as long-term investments rather than immediate payoffs, which is why they prioritize structuring incentives to retain founders and key staff.

Strategic buyers typically structure their offers based on two components:

Intrinsic value consideration — A fixed cash payment reflecting the standalone value of the startup today.
Earnout consideration — A contingent payment tied to future synergies and post-acquisition performance.

However, earnouts don’t help VCs achieve their book value target. In book value accounting, earnouts don’t count as an asset. They depend on hitting future milestones, which means they cannot be booked as a realized asset.

When a buyer offers an intrinsic value consideration below the VC’s book value objective, the deal doesn’t work for the VC because it translates into a realized loss on book value.

Some buyers try to solve this by offering stock instead of cash, but this doesn’t actually increase valuation. The total exit price remains the same, meaning the VC still records the deal at a lower valuation than expected. While stock might have potential upside, it doesn’t increase the intrinsic value considerations — it just changes the form of payment.

This is why VCs strongly prefer cash-heavy deals and push back against earnout-heavy structures. If a deal fails to meet book value targets upfront, a VC is often better off holding the asset rather than accepting an exit that looks like a loss on paper.

While most buyers won’t increase valuation just to meet a VC’s book value target, some can engineer deals to create perceived upside — not by increasing cash payments, but by using rollover equity.

Instead of offering a higher cash price, the buyer converts part of the VC’s exit into equity in the new entity:

This allows the buyer to justify a higher headline valuation without actually paying more in cash.
For a VC, this keeps the total deal value closer to book value objective, even if part remains illiquid.

For example, I’m working with a VC-backed company which has a book value expectation of €50M, but one buyer is only willing to offer €40M in cash.

Instead of walking away, the buyer offered:

€30M cash upfront
€20M in rolled equity in the new combined entity

Now, the headline valuation appears as €50M, even though only €30M is liquid. This lets the VCs to justify their multiple in their books, even if liquidity is delayed.

At the end of the day, valuation isn’t just about numbers — it’s about incentive. PE-backed strategics love using rollovers as they plan to sell the business again in 3–5 years at a higher valuation.

If they believe they can generate a bigger exit later, they’re comfortable stretching valuations to meet book value expectations, without overpaying in cash.

Thanks!