Putting a value on your pre revenue start-up is like climbing Mt. Everest without a guide or equipment. Every start-up at some point must put a realistic value on their company whether it is for a competition, an investor, even if it just to have a the number into your pitch deck. When you have no revenue or prior investment, no benchmark or backup your number doing the math feels like a sham. Often entrepreneurs will either under-value (very rare), over-value (most of the time) or just ignore the whole exercise. If you fall into the latter category, shame on you!
The truth is putting a value on your company for the purpose of investment is usually the very last thing most entrepreneurs think about, so you are not alone. Feel better? When entrepreneurs finally get around to calculating the value of their venture it is stressful. The net result, valuation is the area of the business where the least effort is applied and the one that is most necessary. I’ve been there… I hated it.
There are methods for valuing pre-revenue companies. Most advice recommends you calculate your Internal Rate of Return (IRR). Calculating your IRR means you need to have a reasonable forecast as your base. YOUR FORECAST IS WRONG… so your valuation is OFF.
If you are reading this article you have already seen the IRR calculation, and you know IRR is the Interest Rate that makes your Net Present Value = ZERO. As soon as you saw THIS calculation.. your eyes crossed and you made up a number.
There is a MUCH easier way to value your start-up.
A few assumptions first: You UNDERSTAND your INDUSTRY and KNOW your Competitors.
You have taken a look at the market opportunity and have a pretty good idea as to where your venture sits in the group.
The least painful way to put a value on your venture is done in 3 steps (Step by step screenshots below):
- Go to Angel List – easy
- Find the valuation which is closest to your start-up
- Use the Simplified Scorecard Valuation Methodology to calculate the value
STEP BY STEP – How to calculate your venture’s Valuation.
In Angel List, use the Filter function to filter by Location AND the filter by Market
Based on the Angel List valuations the average University of Waterloo Mobile Games company has a pre-revenue valuation of $3.8M to $5.0M. Nice, now you have a reasonable base with supporting documentation to start your calculation.
A couple of recommendations: Take a look at the detail in some of the average companies; understand who they are, what they do and where they are in comparison to your company. Use a conservative approach and take the lower of the two numbers for your calculation.
I have used the Scorecard Valuation Method in the past which is clean and simple. You can provide back up for your valuation. This it is not perfect but it is a good start. I have to give a Hat Tip to Bill Payne and Gust.com for providing this methodology and making it public. [Payne, Gust.com]
Feel free to use this Excel Spreadsheet How to Value Your Pre-Revenue Start Up
A few last words:
Valuation is pretty subjective. When you are pitching to an investor please make sure you do your research first. Get to know who they are and what type of companies they typically invest in. Don’t waste an investors time by not having solid understanding of your business.
The value of your start-up will change as the company, product, market and team changes. Keep this up to date.