Valuation of Startups

Different Approaches
 Different Stages of Financing
• Seed Financing
– The seed financing will provide the capital needed to
support salaries for founders/management, R&D,
technology proof-of-concept, prototype development
and testing, etc. Sources of capital may include
personal funds, friends, family and angel investors.
• Series A Financing
– Typically the Series A is the company’s first
institutional financing—led by one or more venture
investors. Valuation of this round will reflect progress
made with seed capital, the quality of the
management team and other qualitative components.
 Stages of Financing
• Series B Financing
– The Series B is usually a larger financing than the Series A. At
this point, we can assume development is complete and
technology risk removed. Valuation is gauged on a blend of
subjective and objective data—human capital, technical assets,
IP, milestones achieved thus far, comparable company
valuations, rationalized revenue forecasts.
• Series C Financing
– The Series C may be a later-stage financing designed to
strengthen the balance sheet, provide operating capital to
achieve profitability, finance an acquisition, develop further
products, or prepare the company for exit via IPO or acquisition.
The company often has predictable revenue, backlog and
EBITDA at this point, providing outside investors with a breadth
of hard data points to justify valuation.
Difficult task

HOW DOES ONE VALUE IP?

 Methods used
• (a) the Cost Method (costs include labour, material and equipment,
cost of registering IP, creating prototype, testing and trials etc.);
• (b) the Market Value Method (very challenging to use as no two IPs
would be same and also lack of reliable data);
• (c) the Income or Economic Benefit Method (focuses on the
revenue IP rights may generate, the challenge is to estimate the
economic life of an IP and the revenue it can generate over the life);
• (d) Relief from Royalty Method (based on an assessment of what
royalty costs a company is avoiding by virtue of owning the IP right)
• (e) Time and Materials Method( emphasises on efforts behind the
development of the IP) and
• (f) Scorecard Method (it provides a checklist for the IP and tries to
score the response to each question and finally generates an overall
score out of 100 points)
 Which method to use?
• Depends on:
(a) how unique is the product?
(b) how much data is available and verifiable?
(c) what is the context, purpose and objective
of the valuation, and
(d) the judgment of the analyst.
 Valuation of pre-revenue companies
• Scorecard method
• VC Method
• First Chicago Method
Pre-revenue valuation: Scorecard
 The Venture Capital Method
• The VC Method:
– Combines elements of DCF
– Uses only success scenario
– The hurdle rate used in VC method accounts for
(i) time value;
(ii) project risk;
(iii) the bias associated with discounting only the
success scenario cash flows/earnings;
(iv) the dilutive effect of subsequent financing rounds
The First Chicago Method(FCM)
– Rather than limiting the analysis to a success
scenario, FCM uses probability-weighted scenarios
to come up with more reliable estimate of
expected cash flows/earnings
– These expected cash flows are then discounted
using a more realistic cost of capital
Valuation Methods