Valuation · Deal Structure

How to value a startup?

Robert Mendelson Looking for a partner with a kick-ass vision who needs a strong execution partner to make it happen!

November 20th, 2015

 How do you value a startup with a unique product, very little sales but great potential? 



Peter Johnston Businesses are composed of pixels, bytes & atoms. All 3 change constantly. I make that change +ve.

November 21st, 2015

Well, you don't actually. Because two of those three things are not quantitative. Potential is totally subjective and so is Unique. The only one you can measure is near zero.

The answer is to create systems to make Unique and Potential quantitative.
Surveys can assess demand, or a trial website can show traction for the idea through signups.
Building an MVP - a simple low-effort version of the product and seeing who buys can show sales potential. As can putting it out on Kickstarter or similar.

Unique has no value unless you can show that it something people want more than what is already out there.

The other part to this is that product is only 10% of the value.
Good marketing can turn an ordinary product into a winner, bad marketing can bury an excellent idea.
Having a powerful team on board who can make it scale, introduce it to the markets, find good partners etc. is of much greater value.

It sounds to me that you don't have that team on board. So network, find some people who know the markets for your product and they will show you the value and unlock the potential.

Robert Mendelson Looking for a partner with a kick-ass vision who needs a strong execution partner to make it happen!

November 21st, 2015

Peter, 

Appreciate the feedback. 

A few more details:
-not only is there an MVP but it has been selling over the last few years. But at very low revenue. 
-the product is already proven to provide specific value to its customers. And based on my own market research, it is unique. And given what the product does, I believe the product truly has global potential.  
-the current 'team' is a one man show, the inventor, who is not a marketer. I am considering joining both as an investor and as ceo/cmo given my background

Given this additional info, any more guidance you can now provide? 

 

Peter Johnston Businesses are composed of pixels, bytes & atoms. All 3 change constantly. I make that change +ve.

November 22nd, 2015

Hi Robert. Your answer does change things and Karl has outlined some of my concerns.

If you are buying into a going concern, you have to ask yourself 2 things:
1. Why is it not going as well as the potential says it should?
2. Why does the partner need you in there.

If you can't see a way of doing 10X then don't engage. And if the partner won't change, don't get involved. 

But if you are being given your head to do this your way, then don't value it by industry norms - value it as your startup and see what numbers you think you can do, what you need to invest to make this happen and what is the likely revenue gap between spend and return. That is the true value.

Here you have a product out there for some time but not getting exponential sales growth, nor a healthy premium. You've lost the benefit of the "new" tag, without really anything to show. Normally the next stage is commoditisation - reducing margins to gain growth, but you have no headroom. So unless you can see a way to really turn it round with 10x on both sales and revenue, the value is zero.

Cyrill Haenni M&A & Corporate Development Services

November 21st, 2015

Hi Robert,

I refer to your email where you provided more details. That an inventor gets the first USD 2.5m upon exit is unusual. This tells you the inventor is not sure about the value of his invention, thats why he seeks protection. As a new investor you should only join if this clause is canceled so that all interests are aligned. You cannot accept a clause like this, as he should convince you how good his invention is, not the other way round.

CEO and management need to have a significant stake in a company which is not CAPEX intensive (as it is a software business as in your case) and where execution is key to scale it up, otherwise you will not be motivated to work hard. You should thus ask for minimum 30% stake, otherwise you might be able to find a better opportunity for yourself on the market.

Hope this helps.
Cheers

Karl Schulmeisters Founder ExStreamVR

November 21st, 2015

Robert - Imagine you have $500,000 to invest (10% of a company would make it a $5mil valuation with an expected valuation in 3 years of $50 million) as an Angel.  Typically Angels want a business plan that will give a 10:1 ROI in 3 years.  So lets look at your product


>>A few more details:
-not only is there an MVP but it has been selling over the last few years. But at very low revenue.<<
Ok Warning sign right there for me.... after all  unless you can give me a clear reason why it has been selling at a low revenue - it seems the market is speaking and saying the value of this solution is simply not that significant.   So how much needs to be invested to get the revenue growth to be 3x every year for the next three years?

-the product is already proven to provide specific value to its customers. And based on my own market research, it is unique. And given what the product does, I believe the product truly has global potential.

Yes and that value - as you said, is low.  OK so its Unique.  One reason things are unique is that they are not really needed.  A chocolate filled hamburger is "unique".. but I don't think I'd invest more than  $0.50 in one even though chocolate and hamburgers are eaten world wide

-the current 'team' is a one man show, the inventor, who is not a marketer. I am considering joining both as an investor and as ceo/cmo given my background
So then the question is not "what is the valuation of the company"... rather the questions are Four fold

  1. How much money is needed to get this product to a broader market where it is meeting its revenue potential?
  2. How much of the company is the inventor willing to part with for this money
  3. Do you believe that the company will grow fast enough in 3 years to give you a 10x ROI assuming the company gets sold lock stock and barrel and you get everything and the inventor gets nothing (typical term sheet for an Angel investor)
  4. Is this inventor willing to give up control of his company to a CHIEF EXECUTIVE OFFICER who gets to have final operational say?

If #4 is no - don't walk - RUN away

If the combo of #2 and #3 do not work.. don't walk - RUN away

If you don't have enough for #1 - then walk away.

John Currie ITERATE Ventures - Accelerating Science & Technology Ventures www.iterateventures.com

November 22nd, 2015

Robert,

Your question is probably the most difficult one to answer for true early stage tech ventures (pre-reveneu or just at revenue).  I've found Shark Tank to be one of the best educators for entrepreneurs, because that question is a major part of the dynamic.  And you her the sharks say all time how the naive entrepreneur has over-valued the company.

You've really got to figure out for YOURSELF 1st .... who is your target and how will you take a buck.  What is the customer acquisition model, and how can I PROVE that model works?  When you have figured out this 'secret', you can start to place a real valuation on your venture.  I spend a lot of time on the entrepreneur side justifying past investments, patents, and technology that have gone it.  Paying Customers TRUMP all of that.  Investors want you to get through that painful period of figuring that out.

Rob G

November 22nd, 2015

Robert, this  doesn't necessarily answer your question, but I would be inclined to take a multi-step approach to this. I'd suggest finding a way to get more deeply involved on some short-term interim basis before I attempted to place a valuation on the company. Get a better feel for what it's like to work with this inventor, talk to some customers, talk to some prospects, etc.