While discussing your business valuation with your investors, it is essential to understand the terms. There are three key terms that you have to keep in mind.
Investors Ownership Percentage
For instance, if the pre-money valuation is $6 million and the investment is $2 million, then the percentage ownership is calculated as:
Equity owned by investor = Amount invested ÷ (agreed pre-money valuation + Amount invested)
Therefore the equity percentage owned by investor = $2m/($6m + $2m)
Post money valuation = Pre- Money valuation + Amount invested
Which is = $6m + $2M = $8M
It is impossible to analyze pre and post-money valuations when evaluating the financial merits of a proposed valuation. Other factors, such as liquidation preferences and dividends, should be considered while determining whether a deal is good or not.
It is understandable when an article starts with a complicated mathematical equation, but this is as simple as we could make it for a layperson to understand how investors determine the value of YOUR business. However, there are multiple methods they use for business valuation. From traditional methods to newer ones, let’s explore some of how investors do a business valuation.
Recent Comparable Financing: In this method, the venture capitalist will take note of similar companies and businesses in your industry and stage them as good opportunities for investment. VC’s research uses the many available resources such as VentureSource, Venture Wire, and VentureXpert. These sources may provide the VCs with information that allows them to assume a valuation range for comparable companies. It is important to note that transactions over two years old will not be considered. Some information might not even be accessible to the public. Many entrepreneurs and VCs understand and get information through their networks about the recent valuations for comparable companies. However, this is just word of mouth and cannot be considered credible.
Potential Value at Exit: Investors usually sniff out a company’s exit value. The value can depend on the company’s recent merger and acquisition transactions or the valuation of a similar public company. Most early-stage investors look for 10 or 20 times greater returns than their investment. More prominent investors tend to look for a 3 to 5 times return on their investment in the same period of 2 to 5 years. Investors use methodologies such as these to set a range for their valuation. They will have a maximum value for the business based on their view of the future valuation and the perceived competitiveness of the deal. Still, They will usually pay attention to the lower part of the price range.
How to maximize your business valuation.
Make a good case: Make a strong case for your business. Make the investor believe that your company has a huge potential exit value.
Maximize the potential exit valuation: This can be done by removing any obstacle that the investor thinks might limit your upside valuation. For instance, If you have problems with your sales team, identify a backup plan or group you will add after the funding is secured.
Do your homework: This is nothing new. Everything you venture into requires good research to be done. Identify similar companies in your sector and then try to make assumptions about other companies at slightly later stages. Notice technical or commercial gaps between your business and theirs. Focus on an excellent plan to close these gaps and include them in your business plan.
Keep your options open: Approach many investors and try to build your pitch according to the criticisms you say. Get a few investors to be interested in your business. If there is competition for your deal, an investor will likely give you a higher valuation. Do not play the competition card if you don’t have investors lined up. Remember, the investors and VCs have a network and talk to each other.
In conclusion, always be confident in your idea. When an investor gives you a valuation, ask for a higher valuation. This gives a notion that you are satisfied with your business. Provide evidence, arguments, and facts as to why you deserve a higher valuation.
If the valuation is reasonable, take the money and go ahead! The investor’s specific percentage won’t hinder your company’s ultimate success. Be sure to talk to your board of directors, mentors, advisors, and consultants.
If you have a BIG IDEA and you’re entering a business valuation discussion with investors, do your homework! If you have an idea and lack the resources, funding, and tech team, approach Project 10K. Partnering with Project 10K allows you to become the Co-Founder of your dream company! Project 10K also has a proficient tech team and a proven track record that can help your company scale and exit! Visit https://project10k.com/ or more information.