Ask YC: I'm pitching to an angel. How do I value my startup?
31 comments
[disclaimer]Mind you, I'm on the outside looking in. I really haven't started the startup funding shuffle yet, but I've read compulsively. And, this is what I've gleaned. YMMV.[/disclaimer]
First, a few important questions.
Do you have revenue? How many users? How fast have your been growing? Proprietary patentable technology, or a user focused tool built on open source? I'd say that how many people are on the team, and how long you've been coding is rather unimportant. What is most important is what you have in hand.
What is a startup worth? Ultimately what the market is willing to pay for it. So, it's worth whatever you're willing to sell a stake of it for, and whatever the angel is willing to buy a stake for. It all depends where the investors and the market are at in the greed <--> fear continuum. Right now, I get the impression that we're towards the end of the greed spectrum, and we'll be swinging back to fear soon. I know that's not very helpful, but ultimately it's all voodoo and people's best guesses. But, there are a few guidelines.
It helps to have a base case. Take for example YC funded companies:
Y Combinator offers $5,000 n + $5,000 where n is the number of founders for a 5-20% stake in a startup. That's usually for a group of founders with an idea, a prototype or maybe a little bit of code and a few users. That means that 0-6 months ago, had you been funded by YC, here's what your company would have been worth:
$5,000 x 2 founders + $5,000 = $15,000 for a 5-20% stake in your company. If $15,000 is worth 5-20% of your company, that means that your company was worth $75,000 to $300,000. Here's the formula:
startup value = investment/stake
or in the above YC case:
value = $15000/5% = $75000 at the low end
or
value = $15000/20% = $300,000 at the high end
Does this make sense? Someone please correct me if I'm wrong, but this is pretty much how I understand it's done.
If you have more traction than a typical YC group, i.e. more users, unique technology, revenue streams, strong code base, etc... Then, you're probably worth more than the $75,000 - $300,000 valuation. If you have more traction, you're probably looking at a 300,000 - 1,000,000 valuation. If you have less or as much traction, you're looking at the YC range.
Anybody else have any thoughts on the matter?
First, a few important questions.
Do you have revenue? How many users? How fast have your been growing? Proprietary patentable technology, or a user focused tool built on open source? I'd say that how many people are on the team, and how long you've been coding is rather unimportant. What is most important is what you have in hand.
What is a startup worth? Ultimately what the market is willing to pay for it. So, it's worth whatever you're willing to sell a stake of it for, and whatever the angel is willing to buy a stake for. It all depends where the investors and the market are at in the greed <--> fear continuum. Right now, I get the impression that we're towards the end of the greed spectrum, and we'll be swinging back to fear soon. I know that's not very helpful, but ultimately it's all voodoo and people's best guesses. But, there are a few guidelines.
It helps to have a base case. Take for example YC funded companies:
Y Combinator offers $5,000 n + $5,000 where n is the number of founders for a 5-20% stake in a startup. That's usually for a group of founders with an idea, a prototype or maybe a little bit of code and a few users. That means that 0-6 months ago, had you been funded by YC, here's what your company would have been worth:
$5,000 x 2 founders + $5,000 = $15,000 for a 5-20% stake in your company. If $15,000 is worth 5-20% of your company, that means that your company was worth $75,000 to $300,000. Here's the formula:
startup value = investment/stake
or in the above YC case:
value = $15000/5% = $75000 at the low end
or
value = $15000/20% = $300,000 at the high end
Does this make sense? Someone please correct me if I'm wrong, but this is pretty much how I understand it's done.
If you have more traction than a typical YC group, i.e. more users, unique technology, revenue streams, strong code base, etc... Then, you're probably worth more than the $75,000 - $300,000 valuation. If you have more traction, you're probably looking at a 300,000 - 1,000,000 valuation. If you have less or as much traction, you're looking at the YC range.
Anybody else have any thoughts on the matter?
Y C can command lower valuations (though I don't think they really take advantage of it) than most other investors due to their incredible value add, which may actually be the highest in the industry. There are probably zero investors who are going to put as little as $100k into a company that come anywhere close. So out of the gate I'd require a higher valuation from other investors.
I think you mean:
value = $15000/20% = $75000 at the low end
or
value = $15000/5% = $300,000 at the high end
value = $15000/20% = $75000 at the low end
or
value = $15000/5% = $300,000 at the high end
:) Yeah. I was tired when I wrote the post. Thanks.
I'd say I'm at stage similar to what an 'average' YC startup would've been at after about 3 to 5 months. Not hugely populr, and not at a deadend either. It's a consumer, social, Web site. We don't have a lot of users yet, and we don't have revenue, but the concept seems to be a good one, and I think that's how the investor heard of us and approached us.
Often the usual response is something similar to "we are anxious to go through a formal valuation process should we determine this is an appropriate possible investment." It's certainly a bit of a chicken answer, but you can provide numbers such as revenue, product developments, and users to give an idea of what a proper valuation would be. The idea is to not price yourself out of their range during the first conversation.
Don't. Say something like "I want to keep x% of the company". Thus if you end up getting more funding than you initially expected (happens often) you'll essentially get a higher val.
That's an interesting twist. Thanks. Is it common?
It may be common but the more important question the investor will have is how soon and for how much you can sell the company (in other words how will you use the funds to create more value / reduce risk in the startup). There will be other terms associated with a funding that will have a significant impact on how much you make when you sell (for a reasonable range of exits). A couple of good sites for background on funding:
http://venturehacks.com/
http://www.feld.com/blog/archives/cat_term_sheet.html
http://www.startupcompanylawyer.com/?s=term+sheet
http://www.paulgraham.com/guidetoinvestors.html
http://www.skmurphy.com/blog/2007/12/01/three-points-about-s...
http://venturehacks.com/
http://www.feld.com/blog/archives/cat_term_sheet.html
http://www.startupcompanylawyer.com/?s=term+sheet
http://www.paulgraham.com/guidetoinvestors.html
http://www.skmurphy.com/blog/2007/12/01/three-points-about-s...
No investor ever asks you "how soon and for how much can you sell the company." Ever. And if they do, go elsewhere.
you're right, what I should have written is the question in their mind is "how soon and for how much can we create liquidity" with more of a focus on how much than how soon. In other words, how will the funds be used to reduce the risk in the startup. If acquisition is your likely exit (and that's a safe bet for most new startups) then they may ask you to speculate who would buy the firm and for how much. I am not advocating a "built to flip" strategy" as much as trying to understand an investor perspective.
[deleted]
Yeah, if you read all the sites about raising money, you'll see that pop up in a few spots.
Don't get locked on the pre-money valuation: the other terms tend to have a much bigger impact on how much you actually make.
What's your plan for paying the investor back? Will you need a follow on round? How much, when, and why. What risks about your startup will you have reduced before you need to raise another round. Can you be acquired based on what you will achieve with this first round.
Have you talked to other teams this investor has worked with? You have to assign a value to the expertise, advice, and connections that this investor will bring. Most angel investors supply more than money. That's one of the reasons teams want to take money from Ycombinator, they have a well defined methodology and a constellation of other folks they can connect you with who can help you succeed.
You are negotiating the start of a relationship that will normally only end when your firm goes bankrupt or is sold: this is not a transaction this is a long term partnership.
What's your plan for paying the investor back? Will you need a follow on round? How much, when, and why. What risks about your startup will you have reduced before you need to raise another round. Can you be acquired based on what you will achieve with this first round.
Have you talked to other teams this investor has worked with? You have to assign a value to the expertise, advice, and connections that this investor will bring. Most angel investors supply more than money. That's one of the reasons teams want to take money from Ycombinator, they have a well defined methodology and a constellation of other folks they can connect you with who can help you succeed.
You are negotiating the start of a relationship that will normally only end when your firm goes bankrupt or is sold: this is not a transaction this is a long term partnership.
How much money are you trying to raise?
We have a low burn rate, so a $100K should be enough to allow the two of us to continue working on it for another year, including a small marketing budget, and occasionally bringing in a consultant for the things we need help with (graphics, marketing consultations, legal, ..etc).
I'd also shoot for more than a year's expenses. I've found investors like to hear you're aiming for 18-24 months. Consider that you have to essentially start seeking funding 6 months before running dry. If you aim for 1 year's expenses you work 6 months, then start on fundraising. Raise 18 months' expenses and you work for 12 before fundraising again, so you get double the progress for only 50% more money.
And if you can raise $100k, you can almost certainly raise 150.
And if you can raise $100k, you can almost certainly raise 150.
$100K is not enough to sustain two employees for an year. $50K is less than the annual average living expenses for a person. (Just do the Math, housing, insurance, etc.). I would strongggggggggly recommend to try raising something between 0.75M an 1M. I have noticed a lot of fellow hackers seriously undervaluing the time they spend building a product. Two strong hackers, working for 6 months is eaily $140K expenses(and I am including just the salary an employer would pay). Please, please do not undervalue your time and expertise.
With the oncoming recession and all, you do want to have enough in the bank for at least 1 to 2 years, if you are serious about your startup.
With the oncoming recession and all, you do want to have enough in the bank for at least 1 to 2 years, if you are serious about your startup.
$100k is more than enough to sustain two founders for a year. Especially if the founders happen to be young and unmarried. If they were living together they could probably make it on expenses of $50k for a year while still living relatively comfortably (even at Silicon Valley prices).
Also, I'm not sure what to make of your comment "Two strong hackers, working for 6 months is eaily $140K expenses" How good the hackers is hardly related to the expenses they require. Perhaps 140k is the opportunity cost?
Having enough in the bank for 1-2 years is probably a good idea, but it sounds like they could do that on $250k-$350k.
Also, I agree with matt, focus on the percentage you are giving away rather than the amount you want to take.
Also, I'm not sure what to make of your comment "Two strong hackers, working for 6 months is eaily $140K expenses" How good the hackers is hardly related to the expenses they require. Perhaps 140k is the opportunity cost?
Having enough in the bank for 1-2 years is probably a good idea, but it sounds like they could do that on $250k-$350k.
Also, I agree with matt, focus on the percentage you are giving away rather than the amount you want to take.
At $50K your taxes are going to be pretty low, but just the same try and have the company pay for things instead of buying them with your salary.
If you look around you may find a business partner who could give you some money as part of some kind of deal. Traditional software companies can do this by pre-selling licenses at a discount and web companies looking for ways to get more users may pay you if you find a way to help your users get signed up with them. However I'd caution against spending too much time on this sort of thing yourself as it can easily become a distraction.
If you look around you may find a business partner who could give you some money as part of some kind of deal. Traditional software companies can do this by pre-selling licenses at a discount and web companies looking for ways to get more users may pay you if you find a way to help your users get signed up with them. However I'd caution against spending too much time on this sort of thing yourself as it can easily become a distraction.
It's not easy, but it's doable. Asking for the numbers you're suggesting forces us to seek VC funding (which we might do later), but we're not ready for it yet.
Grad students routinely live on less than $20K/year...
Maybe this is a stupid questions, but aren't there taxes to pay as well? If they use the money to pay a wage to themselves (to use to pay for food and rent and insurance), then they pay income tax on that wage, right? Or does that "$50k" number include income tax?
YC tends to gives about $6K-10K per founder, which needs to last for at least 3 months or until they get more funding, unless they have other funds... and the funded companies seem to make it work...
I would go one step further.
If you need 100k, why are you looking for VC funding? They will give a horrible valuation and take a large part of your company. First phase funding in the ~100k range I would look for angel investors or get the people involved to contribute the money. Either raise 500k from a VC and have a much more aggressive growth strategy if that is the route you want to go, or raise 50k from friends/angels/yourselves and minimize costs as much as possible.
If you need 100k, why are you looking for VC funding? They will give a horrible valuation and take a large part of your company. First phase funding in the ~100k range I would look for angel investors or get the people involved to contribute the money. Either raise 500k from a VC and have a much more aggressive growth strategy if that is the route you want to go, or raise 50k from friends/angels/yourselves and minimize costs as much as possible.
Any advice, resources, or tips on how to come up with the right valuation? Should I ask for a very high number and be willing to negotiate down? Or should I set a value and stick with it? Thanks everyone.