tech-company, equity, startup-costs, valuation, valueI’m trying to calculate the value of my startup, so that I can determine how much equity to give up to finance things. Just as a summary, this is a software startup, which requires £150,000 to develop the product, making it market ready. The initial offer I’ve been given from a potential investor (although only an opening offer), is 70% for them, 30% for me.
I know there are many ways to calculate the potential value of an idea. I’m looking at the current market and our competitor. For example, the competitor charges around £50,000 per year for their solution. The investor claims they have 30 clients that want to leave the competitor, who would come to us instead - this is part of the investors promise, financing and clients to sell to.
So, over a year, we have the potential to generate £1.5m in revenue. Who knows what else we could do after year 1. I also appreciate we may not get all these clients, especially not all on day 1. But for arguments sake, let’s say that the value of the idea is £1.5m, based on the investors promise of 30 clients and the average cost of the solution that the competitor currently charges.
That would mean their £150,000 investment is worth more or less 10% (for easier maths). Maybe 20% if we can only get 15 of the 30 clients. I appreciate 10%-20% is rather low, but surely 70% is too high?
Am I looking at this in the wrong way or am I on the right tracks?
Valuation of a start up is not necessarily scientific when it comes to raising investment. It is essentially a negotiation.
However, the negotiation would tend to take a familiar pattern when it comes to experienced investors.
Either, the investor makes a reasonable offer that maintains the founders crontrol over their own business with certain protections in place. Such as: preferential shares which mean they get their money out when you exit first before anything is divided up, ratchet clauses which protect them if the next round is a lower valuation, the option to put someone on the board to give them influence in decisions, investing by the mechanism of a comvertable loan which is either paid back by the founder or converted to equity at a discount to the next round etc
Or, they say it is not for them and give reasons why. Such as: the valuation would end up giving them too much of your company demotivating you and killing the business, they need another investor in first before they’d commit, they dont think the idea is good, it’s not scaleable, they dont invest in this industry (I’ve heard them all unfortunately).
Anything outside of the above is unusual and would make me question the experience of the investor themselves, what previous deals they had made and I would be looking for references from people they had invested in in the past.
but back onto valuation:
Valuation at the earliest stage is extremely difficult and extremely risky for the investor. This is why there is a trend towards convertible loans as a form of investment rather than straight up equity. It allows valution to wait until a later time when more is known about the business. This way, the negotiation is less around the current valuation of the business but instead negotiates what discount will be given on the more accurate valuation of the next round. While also negotiating what other protections the investor would need in place in order to feel comfortable making the deal.
In most cases if someone has the money and interest in the idea then a deal can be struck, but if your starting point is losing control of your business and selling a 70% stake straight off then you’d have nowhere to go after that.
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