Start-ups and raising capital
Valuing a start-up or young company can be problematic. Key problems can include:
- little or no financial history
- dependency on key people to make it a success
- requires private capital to survive
- making little or no revenue and likely loss making
Another key issue is the likelihood of failure. According to the Australian Bureau of Statistics, of the new companies established in the 2020 financial year, only 50% survived to 30 June 2023.[1]
Experience
Lotus Amity provides valuations for start-ups and to assist in raising capital. Our approach to value start-ups is typically to begin with modeling potential future cash flows. Previous valuation engagements have included:
- Valuation and financial modelling for an Airbnb style tech start-up related to the commercial property market. Valuation modelling provided to assist in an Angel Investor presentation and capital raising.
- Valuation and pricing advice provided in relation to a health product start-up with the products manufactured under license and distribution primarily in Asia. Advice provided in relation to an offer of finance from a potential investor.
- Valuation of a tech start-up providing a marketplace for auto services including retail and fleet servicing. Valuation report prepared for the ATO in relation to undertaking a buy-back of Employee Share Scheme Shares and to issue new shares.
- Valuation of a tech-based infrastructure start-up in the biogas and renewable electricity market. Discounted cash flow valuation models were prepared on various projects to assist in capital raising with incoming investors.
- Valuation paper provided in a dispute between a start-up and incoming investors, on the difference between price and value, present values and rule-of-thumb valuations.
Value or price?
Often founders of a start-up will work out how much funding they require and then what percentage share of the company they are prepared to sacrifice in return for that funding.
For example, a start-up may require funding of $0.2 million and is prepared to offer in exchange a 10% interest in the post-money company. The implied post-money “value” is then $2.0 million and the implied pre-money “value” is $1.8 million.
But what if the investor wants a 20% equity stake for the same $0.2 million funding? Then the implied post-money “value” reduces to $1.0 million and the pre-money “value” to $0.8 million. Has the value of the business really changed or just the price?
What if the firm cannot raise any funding? What is the “value” then? Nothing?
It appears that founders and investors may use the term price and value interchangeably.
However, according to the International Valuation Standards, the two maybe different. Value is the opinion resulting from a valuation process compliant with the standards. Price is the amount offered or paid for an asset.[2]
Value is a function of future cash flows. Price is based on supply and demand, the mood and momentum of the market, liquidity, and timing.
Phases of funding
There are several funding stages a successful rapid growth start-up may go through before it reaches maturity:
- Pre-seed funding. This funding required to get the venture of the ground. Typically funded by family, friends and fools.
- Seed funding. This is the first official funding stage and helps fund market development and product development.
- Series A to C funding. In Series A, Investors are looking for a strategy turning the ideas into a money-making business. Series B to C rounds attract funding once the business is well-established and becomes progressively more successful.
Investors understandably expect the “value” to increase as the start-up climbs the funding ladder. Setting a price too high at the early stages may impede an entities ability to raise capital in the future.