how to calculate startup valuation? - ATG News


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Friday, January 31, 2020

how to calculate startup valuation?

Startup Valuation

S. V. Methods.  are the ways during which a startup owner can compute their company's worth. during the pre-revenue stage of their lifespan.

What Are Startup Valuation Methods?

S. V. Methods. is the way during which a startup owner can compute their company's worth. These methods are important because more often than not startups are at a pre-revenue stage in their life-span so there are not any hard facts or revenue figures to base the value of the business on.

Because of this guesswork, an estimation has been to be used, which is why several startup valuation method frameworks are invented to assist a startup business more accurately guess their valuation.

Business owners want the worth to be as high as possible, whilst investors want the worth to be low enough that they will see an enormous return on their investment.

What Is a Startup

A startup company may be a new business that's potentially fast-growing and aims to fill a hole within the marketplace by developing and offering a replacement and unique product, process, or service but is still overcoming problems.

Startup companies got to receive various sorts of funding to rapidly develop a business from their initial business model that they will grow and build up.

Difference Between Startup Valuation and Mature Business Valuation

Startup businesses will usually have little or no revenue or profits and are still during a stage of instability. It is likely their procedure, product or service has reached the market yet. Because of this, it is often difficult to put a valuation on the corporation.

With mature publicly listed businesses that receive steady revenue and earnings, it's tons easier. All you've got to try to do is value the corporation as a multiple of their earnings before interest, taxes, depreciation, and amortization (EBITDA).


EBITDA is best shown with the following formula - EBITDA = Net Profit + Interest +Taxes + Depreciation + Amortization

For example, if a corporation earns $1,000,000 in revenue and production costs of $400,000 with $200,000 in operating expenses, also as a depreciation and amortization expense of $100,000 that leaves an operating profit of $300,000. The expense is $50,000 resulting in earnings before taxes of $250,000. With a 20 percent, tax-rate internet income becomes $200,000. With EBITDA you'd add the $200,000 net income to the tax and interest to urge the operating income of $300,000 and add on the depreciation and amortization expense of $100,000 supplying you with a corporation valuation of $400,000.

With startup valuations, there is no substantial information to base a valuation on other than assumptions and educated guesses.

What determines a startup value?
Positive Factors
Traction – one among the most important factors of proving a valuation is to point out that your company has customers. If you've got 100,000 customers you've got an honest shot at raising $1 million.
Reputation – If a startup owner features a diary of arising with good ideas or running successful businesses, or the merchandise , procedure or service already features a good reputation a startup is more likely to get a big valuation, even if isn't traction.
Prototype – Any prototype  will help a business may have that displays the product/service.
Revenues – More important to business to business startups instead of consumer startups but revenue streams like charging users will make a corporation easier to value.
Supply and Demand – If there are more business owners seeking money than investors willing to take a position , this might affect your business valuation. This also includes a business owner's desperation to secure an investment, and an investors willingness to pay a premium.
Distribution Channel – Where a startup sells its product is vital , if you get an honest channel the worth of a startup are going to be more likely to be higher.
Hotness of Industry – If a specific industry is booming or popular investors are more likely to pay a premium, meaning your startup are going to be worth more if it falls in the right industry.
Negative Factors
Poor Industry – If a startup is poor performance, or could also be dying off.
Low Margins – startups are going to be in industries, or sell their products have low-margins, making an investment less desirable.

Competition – Some industry sectors have tons of competition, or other business that have cornered the market. A startup which may be competing during this situation is probably going to place off investors.
Management Not Up To Scratch – If the management team of a startup has no diary or reputation, or key positions are missing.
Product – If the merchandise doesn't work, or has no traction and doesn't seem to be popular or an honest idea.
Desperation – If the business owner is seeking investment because they're on the brink of running out of money .
Funding Stages
Because startups in their valuations typically undergo a series of 'funding stages'  can differ after each round of funding, and typically they'll want to point out growth between each round, the usual funding stages are as follows,
Seed Funding – Typically referred to as the 'friends and family' round because it's always people known to the business owner who provide the initial investment. But, Seed funding also can come from someone not known to the founder called an 'Angel Investor'. Seed Capital is usually given  a percentage of the equity of the business in exchange , usually 20% or less, with funds raised usually between $250,000 and $2,000,000.
Round A Funding – this is often the stage that risk capital firms usually become involved . It is when startups have a robust idea about their business and merchandise and should have even launched it commercially. The Round A funding is usually wont to establish a product within the market and take the business to subsequent level, or to form up the shortfall of the startup not yet being profitable. Funds raised fall between $2000000 and $15000000.
Round B Funding – The startup has established itself but must expand, either with staff growth, new markets or acquisitions.
Debt Funding – When a startup is fully established it can raise money through a loan or debt that it'll pay back, like venture debt, or lines of credit from a bank.
Mezzanine Financing and Bridge Loans – Typically the last round of funding where extra funds are acquired in bridge financing loans within the run up to an IPO, acquisition, management buyout, or leveraged buyout. This is usually short-term debt with the proceeds of the IPO or buyout paying it back.

Leveraged Buyout (LBO) – A buyout is that the purchase of a corporation with a big amount of borrowed money within the sort of bonds or loans rather than cash. Usually, the assets of the business being purchased are used as leverage and collateral for the loan wont to purchase it.
 (IPO-Initial Public Offering) – An IPO  is when the shares of a company are sold on a public stock exchange where anyone can invest in their business. IPO opening stock prices are usually set with the assistance of investment bankers who help sell the shares.
Why are Startup Valuation Methods Important?
When an early stage investor is trying to make a decision if they ought to make an investment into a startup he will guess what the likely exit size are going to be for that startup of a kind, and during a specific industry. If a business owner has used methods to point out their startup is worth a high amount that investor is probably going to take a position more into the corporate.
Using these methods is additionally important bcoz owners of startup lack reliable past performance and predictable future performance that the majority established services or businesses use to estimate their value so having a path to guess valuation is beneficial, albeit it's all guesswork and predictions.
Ideally, a business owner should use several startup valuation methods to urge the foremost accurate valuation possible. A business owner will want all of the valuations they are available to from each of the methods to be within a wise average.
For example a startup trying to secure 'seed' investment will offer 10 percent of the corporate for $100,000. This values the company at $1,000,000 but that doesn't necessarily mean it is actually worth $1,000,000 but the startup is suggesting to the investor that there is apotential for the corporate to be worth that figure after growth and investment.
Things to think about When Choosing a Startup Valuation Method
Knowledge of other businesses in an industry and geographical location and what they're valued at is vital to deciding the worth of a startup within the same industry and site , which is why several of the startup valuation include this methods.
A business owner shouldn't stop with one approach. Angel investors and business owners will want to use several methods because no single method is beneficial all of the time. Multiple methods also help a startup determine a mean valuation.

Finding this average valuation is vital because none of the startup valuation are scientifically or mathematically accurate methods, they're predictions and guesswork all supported .
The Most Popular Startup Valuation Methods
There are many various methods utilized in choosing a startup's valuation, while all of them differ in how , they're all good to use.
Venture Capital Method
Berkus Method
Scorecard Valuation Method
Risk Factor Summation Method
Cost-to-Duplicate Method
Discounted income Method
Valuation By Stage Method
Comparables Method
The value Method
First Chicago Method
Venture Capital Method
The risk capital Method (VC Method) is one among the methods for showing the pre-money valuation of pre-revenue startups. The concept was first described by Professor Bill Sahlman at Harvard graduate school in 1987.
It uses the subsequent formulas:
 (ROI) = Terminal Value ÷ Post money Valuation
Post money Valuation = Terminal Value ÷ ROI
Terminal value is that anticipated asking price by the startup's within the future, estimated by using reasonable expectation for revenues within the year of sale and estimating earnings of that year.
If we've a tech business with a terminal value of 8,000,000 with an anticipated return of investment of 20X and that they need $200,000 to urge a positive income we will do the subsequent calculations.
Post-money Valuation = Terminal Value ÷ Anticipated ROI = $8 million ÷ 20X
Post-money Valuation = $400,000
Pre-money Valuation = Post-money Valuation – Investment = $400,000 - $200,000
Pre-money Valuation = $200,000

Berkus Method
The Berkus Method assigns a values of variety to the progress startup owners have made in their attempts to urge the startup off of the bottom . the subsequent table is that the up so far Berkus Method:
If Exists:
Add to Company Value up to:
Sound Idea (basic value)
$1/2 million
Prototype (reducing technology risk)
$1/2 million
Quality Management Team (reducing execution risk)
$1/2 million
Strategic relationships (reducing market risk)
$1/2 million
Product Rollout or Sales (reducing production risk)
$1/2 million
Scorecard Valuation Method
The Scorecard Valuation Method uses the typical pre-money valuation of other seed/startup businesses within the area, then judges the startup that needs valuing against them employing a scorecard so as to urge an accurate valuation
The first step is to seek out out the typical pre-money valuation of pre-revenue companies within the region and business of the target startup
The next step is to seek out out the pre-money valuation of pre-revenue companies using the Scorecard Method to match . The scorecard is as follows, 
Strength of the Management Team – 0-30 percent
Size of the chance – 0-25 percent
Product/Technology – 0-15 percent
Competitive Environment – 0-10 percent
Marketing/Sales Channels/Partnerships – 0-10 percent
Need for extra Investment – 0-5 percent
Other – 0-5 percent

The final step is to assign an element to every of the above qualities supported the target startup then to multiply the sum of things by the typical pre-money valuation of pre-revenue companies

For more information on the scorecard method, please visit here
Risk Factor Summation type 
The R. F. S. type compares twelve elements of the targeted startups to what may be expected during a fundable and possibly profitable seed using an equivalent mean pre-money valuation of pre-revenue startups within the area because the Scorecard method. 
The 12 elements are,
Stage of the business
Legislation/Political risk
Manufacturing risk
Sales and marketing risk
Funding/capital raising risk
Competition risk
Technology risk
Litigation risk
International risk
Reputation risk
Potential lucrative exit
Each element is assessed as follows:
+2 - very positive for growing the corporate and executing an exquisite exit
+1 - positive
0 - neutral
-1 - negative for growing the corporate and executing an exquisite exit
-2 - very negative
The mean pre-money valuation of  your regional pre-revenue companies is then adjusted positively by $250,000 for each +1 (+$500K for a +2) and negatively by $250,000 for each -1 (-$500K for a -2).
Cost-to-Duplicate Method
This approach involves watching the hard assets of a startup and dealing out what proportion it might cost to duplicate an equivalent startup business elsewhere . the thought is that an investor wouldn't invest quite it might cost to duplicate the business.
For example if you wanted to seek out the cost-to-duplicate a software business, you'd check out the labour cost for programmers and therefore the amount of programming time that has been wont to design the software. 

The big problem with this method is that it doesn't include the longer term potential of the startup or intangible assets like brand value, reputation or hotness of the market.
With this is often in mind, the cash-to-duplicate method is usually used as a 'lowball' estimate of company value
Discounted income (DCF) Method
This method involves predicting what proportion income the corporate will produce, then calculating what proportion that income is worth against an expected rate of investment return. a better discount rate is then applied to startups to point out the high risk that the corporate will fail as it's just starting out.
This method relies on a market analyst's ability to form good assumptions about future growth which for several startups becomes a game after a few of years.

Valuation by Stage
The valuation by stage method is usually employed by angel investors and risk capital firms to return up with a fast range of startup valuation.
This method uses the varied stages of funding to make a decision what proportion risk remains present with investing during a startup. The further along a business is along the stages of funding the less this risk. A valuation-by-stage model might look something like this:
At the Stage of Development Estimated Company Value  $250,000 - $500,000
Has an exciting business idea /plan $500,000 - $1 million
Has a strong management team in situ to execute on the plan $1 million – $2 million
Has a final product $2 million – $5 million
Has strategic partners, or signs of a customer base $5 million and up
Startups with just a business plan will receive alittle valuation, but which will increase as they meet developmental milestones.
Comparables Method
This method is to literally check out the implied valuations of other similar startups, factoring in other ratios and multipliers for things which will not be similar between the 2 businesses.
For example, if Startup A is acquired for $7,500,000, and its website had 250,000 active users, you'll estimate a valuation between the price of the startup and thus the amount of users, which is $30/user.
Startup B may need 125,000 users which might then allow it to use an equivalent multiple of $30/user to succeed in a valuation of $3,750,000
The value Method
This method is predicated solely on internet worth of the corporate . i.e. the tangible assets of the corporate . this does not take under consideration any sort of growth or revenue, and is typically only applied when a startup goes out of business.
First Chicago Method
This method factors within the possibility of a startup really beginning , or really going badly. to try to to this it gives a business owner three different valuations
Worst case scenario
Normal case scenario
Best case scenario
Do i want To Use Startup Valuation Methods? 
Whilst it's helpful to possess a valuation of a startup so as to assist investors offer the proper amount of cash needed it is not necessarily the dominant reason why an investor will invest during a startup.
Quite often convincing an investor that a startup has value is more about negotiating, convincing and being passionate and bold about the business idea. Whilst there's no concrete evidence of a startup valuation there is evidence that you simply , as a business owner will do everything you'll to form the business work.
As a result investors will sometimes invest in people instead of the business idea
Do Startups need to  being  Successful A High Valuation ?
The success of a startup doesn't believe it receiving a high valuation, and in some cases it's better to not receive a high valuation. once you get a high valuation for your seed round, you would like a better one for subsequent funding round, meaning that tons of growth is required between rounds.
A good general rule to follow is that within 18 months a startup will got to show that it grew ten times. this is often usually achieved with one among the 2 following strategies.
Go big or head home – A startup can raise the maximum amount money as possible at the very best valuation possible, spending that cash to encourage the maximum amount growth as possible as quickly as possible. If successful a startup will have a way bigger valuation within the next funding round and sometimes , the 'Seed' round can pay for itself.
Pay as you go – a startup would only raise money that it needs, spending as little as possible whilst aiming for steady growth 
Common mistakes 
Assuming a worth is permanent or always right 
When it comes right down to it, a startup is worth what an investor is willing to take a position . A startup business owner might afflict an investor's valuation because their own valuation is different.
But as these valuations are supported predictions a startup owner shouldn't assume that the worth is permanent or right.
Assuming a worth is simple 
Business valuation isn't straightforward for any company. it's constantly changing and there are numerous factors. For a startup this is often even truer because there's nothing to travel on.
It is best to debate this with the potential investor in order that the business owner and therefore the investor agree, especially as this figure will continue to make a decision the startup's valuation.
Need More Help With Startup Valuation Methods?
If you'd like help with raising venture capital or along side your startup valuation you'll post your question or search on google. 

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