For every founding team, one of the most important milestones for a successful funding round should be dealing intensively with the valuation of your own company. At this point, we would like to share some insights on the different valuation models with founders, which we generated from an investor’s point of view in our cooperations with StartUps and company valuations.
We always recommend founders to engage in different models for company valuation in order to be able to give a possible valuation range when approaching investors. The one specific company valuation of the StartUp does not exist but an average valuation range, which results from the calculation of different models and scenarios is the best way to adress this topic.
For the different methodes, either conclusive data, comparison with similar companies or a valuation of single assets is assumed for the valuation of companies. The valuation of StartUps is therefore a complex task, as these are companies that generally do not yet have any historical financial data, whose potential for success is often difficult to predict, and whose still young and partly non-transparent structure makes it difficult to establish comparability. Therefore, many investors use a considerable amount of their own experience and benchmarks in the valuation of a StartUp.
Nevertheless, the valuation of startups is crucial for investors and founders to understand the potential equity story of a company and to find the common ground for an investment deal.
Valuation models with multiples
One of the most common methods for valuing StartUps is the method with multiples. This method is based on the assumption, that if companies have similar business models, industries, and growth potential, their values should be similar too.
- When valuing a company, only profits (or at least potential profits/loses) of the approved and plausible finance case should be accounted for. Only profit level reflects the potential short- to long-term return on invest of the investor/buyer through cash flows.
- An exception are soley exit-driven financial cases, where profitability is not expected or aimed for until the sale. The economic added value of the buyer can only be achieved through synergy effects and/or integration into another business model. From a investor’s point of view, a purely exit-driven valuation perspective can also exist. In such scenarios, it also entails a higher risk of default for founders and investors due to a lack of potential profitability strategies. The pressure to successfully raise capital again is much higher in these cases.
- Profit multiples are often used for small and medium-sized companies with available economic data to enable an initial valuation. The multiple factors, broken down by industry, can be found on sales portals. Weighted multiples are also possible, for example if a company generates revenues in different industries or classifies its activities in different sectors.
- A valuation based on multiples is only possible in case of positive economic forecasts or past profits. It usually disregards progressive value performance in the future.
- A valuation purely based on revenue multiples cannot be considered viable and is not recommended. Only in case of an exit-driven approach with a manageable time horizon until exit, this strategy can determine an initial valuation. However, it is suitable for verifying in context of other valuation methods and in comparison to the market environment. As a stand-alone valuation, it is particularly useless, as no conclusions can be drawn about the potential profits, i.e. potential return on invest to the buyer or investor. A reference to comparable companies is also lacking, since the cost setup usually is a black box.
If you know the expectations of return on investment of the potential investor or if research results show an exit range, you can use the venture capital method. This method is particularly widespread among exit-driven, smaller investors such as business angels. It represents a combination of the multiple approach, the potential target value on exit in the future and a discount factor. From a founder’s perspective, this calculation can also be done and used as a benchmark against the investor’s return expectations.
