What is Pre-Money Valuation? How to Value a Startup.
Pre-Money versus Post-Money Valuation Differences
Valuing a pre-revenue startup business can be difficult, particularly given the various variables that one must consider. Many factors go into researching and generating a pre-revenue business valuation, including industry conditions, the reputation and expertise of the executive staff, the size of their unfilled niche, the discounted cash flow it is expected to generate, and demand for an undisclosed commodity.
Table of contents
- What is Pre-Money Valuation? How to Value a Startup.
- What’s the Difference Between a Startup Valuation and a Mature Business Valuation?
- How does a mature business valuation differ from a startup valuation?
- Factors for Pre-Revenue Startup Valuation
Pre-revenue startups are their own world. We use startup valuation methods specifically designed for their situation with our 20-year history in startup company valuations.
And after reviewing anything and using the most appropriate pre-revenue valuation calculations, you can remember that the best thing you can get with your tech startup is an estimate of your early stage value.
You can also read what you should know about valuing start-up equity.
What’s the Difference Between a Startup Valuation and a Mature Business Valuation?
Let’s begin with the fundamentals before learning about valuing a pre-revenue startup. What is the concept of a startup valuation? The method of estimating the total worth of a new business is known as startup valuation. The processes employed in this approach are critical because they vary from those used in a sales business. Although company owners wish for a high valuation, pre-revenue buyers should settle for a lower valuation that provides a higher return on investment (referred to as ROI).
You can also read what is value in a company valuation.
How does a mature business valuation differ from a startup valuation?
A business valuation will rely on hard figures and facts, as the company has financial records and a steady stream of revenue to calculate the overall value of a business. The EBITDA formula, which computes the value of a company based on its profits before depreciation, taxation, amortization, and interest, is usually used in a professional business valuation by an approved Business Appraisal FL|GA|HI team member. Since a pre-revenue corporation has no revenue, amortization, or earnings, pre-revenue businesses must rely on other important factors to decide the worth of their business.
Factors for Pre-Revenue Startup Valuation
Many owners of pre-revenue companies do not earn as much as expected, and investors for these companies often must spend more than they anticipated. Many times, the first business model gets turned 180 degrees.
Here are a few important factors that go into valuing a pre-revenue startup company:
Proof of Concept
One of the main indicators of the value of a startup company that doesn’t have any revenue is traction. You can get a better understanding of the business by looking at the four data points that make up a company’s proof of concept or feasibility:
Growth rate
How much has your business grown on a small budget? This is a great tool to show investors who will be looking for potential growth when you’ve received financial backing.
Marketing effectiveness
If you’re able to attract high-value customers without spending large amounts of money on advertising, you’ll have an easier time attracting investors when your company is in its pre-revenue stages.
The number of people using your product
If you already have customers, you are off to a great start. The more customers you have, the better. Also, what is your cost to duplicate a customer for your start-up company?
Will The Consumer Pay?
Angel investors want to know how quickly you can secure paying customers, as it indicates the potential exit value of the cash flow.
Demonstrating your company’s understanding of the five key concepts impresses investors and proves that your pre-revenue business idea is scalable. This adds value to your start-up business.
Startup Business Founding Team
Investors won’t want to spend their money on a team that isn’t ready for success. To ensure that investors are interested in investing in your tech startup, look to ensure your company team has the following traits:
Team Traits:
- Diversity of Skills
- Experience
- Commitment
- Experience with Start Ups
Is your business’ support staff made up of professionals who have had success in other startup tech companies? Investors would be more involved in businesses with a few seasoned members on board rather than companies with many first-time tech venture pioneers.
Another way to ensure that your startup appears stable is to ensure that your startup team consists of various skilled people with complementary skills. A computer programmer can’t do everything. Digital marketing, on the other hand, has a better chance of success with your tech startup if you have someone on your team with marketing skills who can communicate with the programmer.
Ensure your company has experienced people with complementary skills and time to dedicate to its launch. People at startups work crazy long hours, and not everyone is at that point in their life anymore.
How Investors Value Pre-Revenue Startup Businesses
Looking at your business to complete a pre-revenue valuation may seem daunting. To get an idea of the worth of your pre-revenue business, you can use the strategies of seasoned investors. Try to become as acquainted as possible with these startup valuation approaches, as this will aid you in better understanding how to assess your business. Let’s look at the most popular approaches for valuing startups:
Berkus Method
Popularized by Dave Berkus, a founding member of the Tech Coast Angels in Southern California, the Berkus Method looks at five important aspects of a startup business. They include:
| Characteristic | Add to Pre-Money Valuation |
| Quality Management Team | Zero to $0.5 million |
| Sound Idea | Zero to $0.5 million |
| Working Prototype | Zero to $0.5 million |
| Quality Board of Directors | Zero to $0.5 million |
| Product Rollout or Sales | Zero to $0.5 million |
Risk Factor Summation Method
Used mostly with tech startup companies and is also known as the venture capital method. Each aspect of a company is provided with a rating that’s up to $500,000. That means that the highest valuation that a tech company could receive is $2.5 million. This pre-revenue valuation method takes a detailed look at the risks involved with a company’s launch.
You will also see this called the venture capital method of pre-revenue start-up valuation.
Here are some of the start-up risks that are looked at when we value a startup using the scorecard valuation method:
- Stage of business
- Management
- Funding risk
- Capital risk
- Burn rate or cash flows risk
- Technology risk
- Competition risk and strategic relationships risk
- Political risk
- Legislation risk
- International risk
- Potential lucrative exit
- Reputation risk
- Marketing risk
An investor will go through and value the risk areas of your pre-revenue start-up as such:
-2: very negative, -$500,00
-1: negative, the risk for carrying out a successful startup, -$250,000
0: neutral, $0
+1: positive, +$250,000
+2: positive for starting up and carrying out a successful business, +$500,000
If you’re concerned about the risk that your tech startup may face, the Risk Factor Summation Method can help easily open your eyes to the value of your pre-revenue tech startup.
Common Mistakes When Valuing a Startup Company
It’s easy to make a few mistakes while looking into how to value your company. Here are the most common mistakes that you can easily make (and avoid) while valuing your company:
Valuations Aren’t Permanent
A tech startup company is only worth what investors are willing to pay at a specific point in time. As the owner of a business, you most likely don’t agree with every valuation your startup company receives. You must always remember that no valuation, whether low or high, is ever permanent (or correct).
Please read how timing can impact your company’s valuation.
Valuations Aren’t Always Straightforward
Just because an investor is interested in your business doesn’t mean you and the investor agree on everything. When you have a pre-revenue startup valuation that you are happy with, it’s a smart idea to speak to your partners to ensure that everyone is on the same page about how you can proceed.
Preparing for a Start-Up Valuation
To provide the highest valuation for your pre-revenue business, you must weigh all aspects your tech startup has to deliver. It’s also important that you, as the business owner, learn how to measure the worth of your company before approaching others who may be interested in investing in it.
Experimenting with different startup valuation methods can show investors that your business has growth potential and competitive value.
If you want a professional startup valuation done and are interested in learning more about how to receive a business valuation for your tech startup from a valuation firm with expertise in valuing early-stage startups. Call or text 561-325-9777, or email us today.