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What top tip do you have for determining your company’s valuation prior to starting fundraising?
1. Determine How Much Cash You Need Over the Next 18 Months
Try to raise money at a valuation that will leave you and your founders in control and provide you with enough cash to execute your plan over the next 18 months. If you can’t do that, then either change your plan or seek other investors. It may take a lot of no’s before you find investors who say yes.
2. Look at Comparables
The easiest thing to do is find comparable companies, see how much they raised and what their valuations were. A great resource is angel.co for tech companies. Once you have a sense of what the market will value your company at, start talking with investors and test that valuation. If they think it’s reasonable, proceed. If they laugh at your valuation, revise and try again.
3. Find Balance
There’s no hard and fast rule for setting valuation. It’s a negotiation between the company and investor. The company needs to have several interested investors (multiple term sheets really) in order to negotiate. Most important is finding a balance between cash needs and the implicit expectations that come with the valuation. The non-financial terms of an investment are often just as important.
4. Ignore Industry Buzzwords
Valuation of a pre-revenue company will always be tricky. Avoid the industry pitfalls of focusing on buzzwords like “traction” or “hotness,” and instead consider the following: Calculate how much you need for 18 months of growth. Then, figure out how much of the company you are willing to give in exchange. Let’s say you want $200,000 for 20 percent — then the range of valuation will be around $1 million.
5. Have as Many “Friendly” Meetings as Possible
Early on, there is no easy way for you to independently set valuation. You might be profitable, or you might be growing, but there are no companies on your same trajectory. Before any formal fundraiser, I spend a few weeks with investors and founders whom I know will not invest. Multiple viewpoints will help you narrow in on value, and friends tearing apart your pitch makes you better for primetime!
6. Do Your Homework
Early on, valuations are a function of the impression you make on your investors. Investors are looking to make as much money as they can and reduce the risk they are taking. Showing examples of similar companies’ valuations in different stages will do just that. Show your investors that you did you homework and that you’re basing your valuation on a proven model.
7. Know What Details Are Important
Rely on your investor to make an offer and place a value on your company. You don’t need to mention or hint at what you expect the valuation to be. You do, however, need to be prepared to say how much money you are raising, and what you plan to do with the new funding to grow your business. Once you have a lead investor, it’s easier to fill out the rest of the round on the same terms.
8. Focus on Growth Potential
When raising capital, focus on growth potential versus how your business is currently performing. If you are going to raise money from a VC, you’ll want to put together, at a minimum, 24-month revenue projections. If your business will take longer to develop into a revenue producing machine, you may want to project out 3-5 years. Leverage revenue growth to shoot for highest valuation possible.
9. Use a Third Party
It will have more credibility than pulling a number at random. Early Growth Financial is great for very early stage companies and Silicon Valley Bank is helpful after you have received funding and want a 409A valuation or deep analysis on what other startups similar to yours are worth.
10. Listen to the Market
In the early stages, determining a valuation for fundraising is more of an art than a science. It’s more about what you can convince investors you’re worth than about applying a multiple or doing a discounted cash flow analysis. Start out with a fairly conservative number based on comparable valuations, and don’t be afraid to adjust it based on how the investors you talk to respond.
11. Seek Input From Peers
If this is your first round, get input from peers about what you can realistically raise based on your industry and stage. Then soft circle to a few friendly investors (friends and family) with your desired terms. It’s harder for new investors to change the terms once you have already raised some of the round. I also recommend Fenwick & West’s venture surveys. They offer data on average valuations.
12. Don’t Get Caught Up
Most outcomes are binary. You’re going to make money, or you’re going to make none. I see a lot of entrepreneurs nickel and dime valuations and focus on dilution at the expense of a quality investor. You should focus on what is most likely to get you on the successful side. Valuation and dilution are only one element of the decision you are making and I encourage people to have a long-term approach.
13. Know the Demand and Longevity
Company valuation should be determined by demand and longevity of a business. Most tech company valuation is built off the growth of a user database. The goal is to build up a massive amount of users to monetize on them somewhere in the future, usually in the form of ads and data capitalization. However, for product based companies, it’s based off demand for the product and lifecycle of the brand.