How Startup Valuation Works

9/12/2015
HowStartupValuationWorksIllustrated
ABOUT
SUBSCRIBE
BUY
WORKSHOP, SF
How Startup Valuation Works

Measuring a Companys Potential
Like
3.5k
Tweet
2,331
Anna Vital < Jul 1' 13 >
How would you measure the value of a company? Especially, a company that
Slack - a messaging app

for teams, integrating
with the tools you
already use.
ads via Carbon
Latest
you started a month ago how do you determine startup valuation? That is the
question you will be asking yourself when you look for money for your
company.
How Hillary Clinton Started
http://fundersandfounders.com/howstartupvaluationworks/
1/14
9/12/2015
Enough Money To Start a Company?
The Hacker's Guide to Investors
2/14
9/12/2015
Do Things That Don't Scale In Startups
The Anatomy Of Determination
3/14
9/12/2015
4/14
9/12/2015
Lets lay down the basics. Valuation is simply the value of a company. There are
folks who make a career out of projecting valuations. Since most of the time you
are valuing something that may or may not happen in the future, there is a lot of
room for assumptions and educated guesses.
Why does startup valuation matter?

Valuation matters to entrepreneurs because it determines the share of the
company they have to give away to an investor in exchange for money. At
5/14
9/12/2015
theearly stage the value of the company is close to zero, but the valuation has
to be a lot higher than that. Why? Lets say you are looking for a seed investment
of around $100, 000 in exchange for about 10% of your company. Typical deal.
Your pre-money valuation will be $ 1 million. This however, does not mean that
your company is worth $1 million now. You probably could not sell it for that
amount. Valuation at the early stages is a lot about the growth potential, as
opposed to the present value.
How do you calculate your valuation at the early stages?
1. Figure out how much money you need to grow to a point where you will
show significant growth and raise the next round of investment. Lets say
that number is $100,000, to last you 18 months. Your investor does not
have a lot of incentive to negotiate you down from this number. Why?
Because you showed that this is the minimum amount you need to grow to
the next stage. If you dont get the money, you wont grow that is not in
the investors interest. So lets say the amount of the investment is set.
2. Now we need to figure out how much of the company to give to the
investor. It could not be anything more than 50% because that will leave
you, the founder, with little incentive to work hard. Also, it could not be 40%
because that will leave very little equity for investors in your next round.
30% would be reasonable if you are getting a large chunk of seed money. In
this case you are looking for only $100, 000, a relatively small amount. So
you will probably give away 5-20% of the company, depending on your
valuation.
3. As you see, $100,000 is set in stone. 5%-20% equity is also set. That puts the
(pre-money) valuation somewhere between $500,000 (if you give away 20%
of the company for $100,000) and $2 Million (if you give away 5% of the
6/14
9/12/2015
company for $100,000).

4. Where in that range will it be? 1.That will depend on how other investors
value similar companies. 2. How well you can convince the investor that you
really will grow fast.
How to Determine Valuation?

Seed Stage
Early-stage valuation is commonly described as an art rather than a science,
which is not helpful. Lets make it more like a science. Lets see what factors
influence valuation.
Traction. Out of all things that you could possibly show an investor, traction is
the number one thing that will convince them. The point of a companys
existence is to get users, and if the investor sees users the proof is in the
pudding.
So, how many users?
If all other things are not going in your favor, but you have 100,000 users, you
have a good shot at raising $1M (that is assuming you got them within about 6-8
months). The faster you get them, the more they are worth.
Reputation. There is the kind of reputation that someone like Jeff Bezos has
that would warrant a high valuation no matter what his next idea is.
Entrepreneurs with prior exits in general also tend to get higher valuations. But
some people received funding without traction and without significant prior
7/14
9/12/2015
success. Two examples come to mind. Kevin Systrom, founder of Instagram,

raised his first $500k in a seed round based on a prototype, at the time called
Brnb. Kevin worked at Google for two years, but other than that he had no
major entrepreneurial success. Same story with Pinterest founder Ben
Silbermann. In their cases, their respective VCs said they followed their intuition.
As unhelpful a methodology as it is, if you can learn how to project the image of
the person who gets it done, lack of traction and reputation will not prevent you
from raising money at a high valuation.
Revenues. Revenues are more important for the B-to-B startups than consumer
startups. Revenues make the company easier to value.
For consumer startups having a revenue might lower the valuation, even if
temporarily. There is a good reason for it. If you are charging users, you are
going to grow slower. Slow growth means less money over a longer period of
time. Lower valuation. This might seem counter-intuitive because the existence
of revenue means the startup is closer to actually making money. But startup
are not only about making money, it is about growing fast while making money.
If the growth is not fast, then we are looking at a traditional money-making
business.
The last two will not give you an automatically high valuation, but they will help.
Distribution Channel:Even though your product might be in very early stages,
you might already have a distribution channel for it. For example, you might
have sold carpets door-to-door in a neighborhood where almost every resident
works at a VC firm. Now you have a distribution channel targeting VCs. Or you
might have run a Facebook page of cat photos with 12 million likes, now that
8/14
9/12/2015
page might become a distribution channel for your cat food product.
Hotness of industry. Investors travel in packs. If something is hot, they may pay
a premium.
DO YOU NEED A HIGH VALUATION?

Not necessarily. When you get a high valuation for your seed round, for the next
round you need a higher valuation. That means you need to grow a lot between
the two rounds.
A rule a thumb would be that within 18 months you need to show that you grew
ten times. If you dont you either raise a down round, if someone wants to put
more cash into a slow-growing business, usually at very unfavorable terms, or
you run out of cash.
It comes down to two strategies.
1. One is, go big or go home. Raise as much as possible at the highest
valuation possible, spend all the money fast to grow as fast a possible. If it
works you get a much higher valuation in the next round, so high in fact
that your seed round can pay for itself. If a slower-growing startup will
experience 55% dilution, the faster growing startup will only be diluted 30%.
So you saved yourself the 25% that you spent in the seed round. Basically,
you got free money and free investor advice.
2. Raise as you go. Raise only that which you absolutely need. Spend as little
as possible. Aim for a steady growth rate. There is nothing wrong with
9/14
9/12/2015
steadily growing your startup, and thus your valuation raising steadily. It
might not get you in the news, but you will raise your next round.
SERIES A
The main metric here is growth. How much have you grown in the last 18
months? Growth means traction. It could also mean revenue. Usually, revenue
does not grow if the user base does not grow ( since there is only so much you
can charge your existing customers before you hit the limit).
Investors at this stage determine valuation using the multiple method, also
called the comparable method, well-described by Fred Wilson. The idea is that
there are companies out there similar enough to yours. Since at this stage you
already have a revenue, to get your valuation all we need to do is find out how
many times valuation is bigger than revenue or in other words, what the
multiple is. That multiple we can get from these comparable companies. Once
we get the multiple, we multiply your revenue by it, which produces your
valuation.
INVESTORS PERSPECTIVE
It is important to understand what the investor is thinking as you lay down on
the table everything you have got.
1. The first point they will think is the exit how much can this company sell
for, several years from now. I say sell because IPOs are very rare and it is
nearly impossible to predict which companies will. Lets be very optimistic
10/14
9/12/2015
and say that the investor thinks that, like Instagram, your company will sell
for $1 Billion. (This is just an example. So do not get caught up in how
unrealisict that is. This is still possible.)
2. Next they will think how much total money it will take you to grow the
company to the point that someone will buy it for $1 Billion. In Instagrams
case they received a total of 56 Million in funding. This helps us figure out
how much the investor will make in the end. $1 Billion $56= $ 940 million
That is how much value the company created. Lets assume that if there
were any debts, they were already deducted, and the operational costs are
taken out as well. So everyone involved in Instagram collectively made $940
Million on the day Facebook bought them.
3. Next, the investor will figure out what percentage of that she owns. If she
funded Instagram at the seed stage, lets say 20%. (The complicated piece
here is that she probably got preferred shares, which just means she gets
the money before everyone else. Also, there might have been a convertible
note as part of the funding, which gave her the option to buy shares later
on at a set price, called cap.) Basically, all of these are just anti-dilution
measures. The investor that funded you early on does not want to get
diluted too much by the VCs who will come in later and buy 33% of your
company. Thats all that is. Lets assume in the end, like in How Startup
Funding Works, the angel gets diluted to 4%. 4% of $940 million is $37.6
Million. Lets say this was our best case scenario.
$37.6 Million is the most this investor thinks she can make on your startup. If
you raised $3 Million in exchange for 4% that would give the investor a 10X
returns, ten times their money. Now we are talking. Only about a 3rd of
companies in top-tier VC firms make that kind of a return.
11/14
9/12/2015
DOES THE VALUATION REALLY

MATTER?
Consider two scenarios Dropbox vs. Instagram.
Both Dropbox and Instagram started as a one-man show. Both of them were or
are valued over $1 Billion. But they started with very different valuations:
1. Drew Houston went to Y-Combinator, where he received about $20K in
exchange for 5% of Dropbox. Valuation 400K (pre-money).
2. Kevin Systrom went to Baseline Ventures and received $500k in exchange
for about 20% of Brbn (predecessor of Instagram). Valuation $2.5M.
Why were the valuations so different? And, more importantly, did it matter in
the end?
OTHER THINGS THAT INFLUENCE

VALUATION
Option Pool. Option pool is nothing more than just stock set aside for future
employees. Why do this? Because the investor and you want to make sure that
there is enough incentive to attract talent to your startup. But how much do you
set aside? Normally, the option pool is somewhere between 10-20%.
12/14
9/12/2015
The bigger the option pool the lower the valuation of your startup. Why?
Because option pool is value of your future employees, something you do not
have yet. The options are set up so that they are granted to no one yet. And
since they are carved out of the company, the value of the option pool is
basically deducted from the valuation.
Here is how it works. Lets say your pre-money valuation is $4M. One million is
coming in new funding. Post money valuation is now $5M. The VC gives you a
term sheet which is just a contract that contains the conditions upon which
the money is given to you, and which you can negotiate. The term sheet says
that the VC wants a fully diluted 15% option pool in the pre-money valuation.
This means that we need to take 15% of the $5 million (post-money valuation),
which is $750, 000 and deduct it from the pre-money valuation ($4 million minus
$750,000). Now the true valuation of our company is only $3.25 Million.
Sources:
Halo Report
NASDAQ and NYSE listing requirements
AVC Fred Wilsons blog
Read more on: funding, money, startup
Written by Anna Vital

Information Designer and Infographic Author
Follow
56k
13/14
9/12/2015
<
How To Start a Startup
2015 Funders and Founders
What Our 7 Billion World

Population Does
>
HowToCreditUs
Terms
Privacy
Facebook
14/14

How Startup Valuation Works - Illustrated

Hochgeladen von

Dokumentinformationen

Copyright

Verfügbare Formate

Dieses Dokument teilen

Dokument teilen oder einbetten

Freigabeoptionen

Stufen Sie dieses Dokument als nützlich ein?

Sind diese Inhalte unangemessen?

Copyright:

Verfügbare Formate

How Startup Valuation Works - Illustrated

Hochgeladen von

Copyright:

Verfügbare Formate

9/12/2015

Anna Vital < Jul 1' 13 >

Slack - a messaging app

How Hillary Clinton Started

Enough Money To Start a Company?

The Hacker's Guide to Investors

Do Things That Don't Scale In Startups

The Anatomy Of Determination

Why does startup valuation matter?

company for $100,000).

How to Determine Valuation?

success. Two examples come to mind. Kevin Systrom, founder of Instagram,

DO YOU NEED A HIGH VALUATION?

DOES THE VALUATION REALLY

OTHER THINGS THAT INFLUENCE

Written by Anna Vital

How To Start a Startup

2015 Funders and Founders

What Our 7 Billion World

Das könnte Ihnen auch gefallen