Valuation
What’s my company worth?
(This is part eight of a 9-part series on raising Seed capital in PropTech. For the rest of the series, check here.)
Valuation can be a bit tricky and I gave you some simple math earlier to determine a ballpark for your valuation. But you need to know that valuation is a fluid concept and is ultimately set by your investors.
You can say your company is worth whatever you want, but unless a group of investors buy stock in the company at that price you’re just talking.
So how do investors value a startup?
There have been volumes (does the word volume apply to tons of blogs?) written about this subject, but I’ll try and offer a translation for the CRE crowd and keep it brief.
Three ways to know —
- Cost
- How much is in it? How much did it cost to start and how much time have you spent on it? If you have 6 months and $100k in it and you are telling me the company is worth $50M, then you better quit your startup, join a hedge fund, and become a billionaire next year. A 500x return in 6 months is bananas.
- With this you are trying to argue that “It’s worth a multiple of what I have in it because we can create value when we have capital. Gimme some more and I’ll do it again!”
2. Comps (Competitor’s financings)
- I already know how much startups typically raise in my niche and at what valuation. So do the other investors in our space. Seed Round valuations in PropTech are usually between $5M and $20M (Pre-money) and we have made investments on both ends of that spectrum.
- A dose of humility goes a long way here. Saying you are at the top of that range for any reason other than a crazy amount of revenue or technology IP is off-putting.
3. Modified DCF (Discounted Cash Flow)
- I say “modified” but I really never run a full DCF because there simply isn’t enough data at the Seed stage. It would just be a nonsense financial model of ALL ASSUMPTIONS and no actual, accurate numbers. Still, the idea of what the company will be worth in 5–7 years on exit is real and worth estimating.
- The OVERLY-SIMPLE math is this — If I need to make a 10x return (which I do), then I need to be convinced that your company will sell for at least $100M within a reasonable time frame. Then I can get comfortable with your $10M valuation. That’s what I mean by Modified DCF. It’s not really a discounted cash flow because I’m not really assuming a discount rate and there is no cash flow until exit. But it’s a way of backing into a current valuation based off a hypothetical future valuation. So it’s a cousin to a DCF.
(**NOTE** — Yes, I am aware that simple math ignores dilution, partial exits, and several other factors. Still, the concept of a necessary high-multiple exit is real and a big factor in valuation.**)
You should know that there are lots of other ways to value startups. The scorecard method is popular with Angels, but few VCs I know use it. In fact, there are at least a dozen ways of valuing a young company, (this guy talks about 9 of them) but the three above are the most common I have seen in our space.
A note on negotiation —
If you took my advice and read Venture Deals, then you know that there is some gamesmanship in negotiating a term sheet. That certainly applies to company valuation.
I’ll get into it more in the post on Term Sheets, but just know that valuation does matter to an investor. I wouldn’t call it the primary deal-breaker in Seed stage in my experience, but it’s directly correlated to my ownership stake. The math is easy and obvious. My $1m gets me more of a $10m company than a $15M company.
Again, I don’t know of many (experienced) VCs who will walk from a good company because they think it’s worth $10M and the founder won’t budge from $10.5M. That’s not a big enough delta. But you will get pushed on it and try not to piss off your future partners too much here!
Some other resources on how investors value startups —
Happy reading!
