Subscribe to receive:

Email Updates: Subscribe to Highway 12 Ventures RSS Feed via email
RSS Feed:        Subscribe to Highway 12 Ventures RSS Feed


Feb 22

So What Is Your Start-Up Worth?

Posted by: Mark Solon        

As venture capitalists, one question we get asked all the time is “How do you value a seed or early-stage company?” The truth is that there really aren’t many tools. Later-stage companies are often valued based upon metrics such as discounted cash flows and revenue or earnings multiples. The challenge is that many of the start-ups we invest in don’t even have revenue, never mind earnings!

It's hard to establish the value of a young company

Trying to establish the value of an early-stage company is complicated by many factors: there is very little operating history, forecasts are guesses at best, products are usually still in development stages and markets may not be developed, the investments are highly illiquid and lastly, first-time entrepreneurs tend to have an inflated sense of value.

When negotiation a price you’re willing to pay for the stock of someone’s company, the inclination is to point out all the risks, holes, and deficiencies in the business plan. The challenge in this exercise is that as soon as the negotiations are over, you’ll be partners in the business and you’ll want to make sure that everyone’s interests are aligned. That means that founders and management still own enough of the company to feel motivated to work hard and that the venture capitalist owns enough of the company to make it an important part of their portfolio. Importantly, room must be left in the capital structure to allow for future financings.

So how do we do it? At Highway 12 Ventures, we like to start at the end. What does that mean? Well, we subscribe to the notion that any negotiation in life is successful when both parties leave the table equally dissatisfied. An outcome where everyone is “mildly satisfied” and no one feels “ripped off” is a pretty good sign that a fair deal has been struck. This is usually the result of a tough but fair negotiation process where both parties have genuine respect for each other.

The fact is, valuing start-ups is far more art than science. Much like the US presidential election process, anyone who claims to be an expert is lying. Remember Supreme Court Justice Potter Stewart’s famous quote regarding obscenity “I can’t define it but I know it when I see it?” Well that’s closer to the truth than any quantitative methodology we’ve heard of.

There are many factors that influence valuations: How big is the market opportunity? What are the risks? How experienced is the founder and the team? How much money will be required to bring the company to profitability and perhaps most importantly, how many other investors want to invest? At the end of the day, the value of your company is largely driven by commodity-like factors, i.e., what are people willing to pay for it?

Of course there are some techniques that we use to try and establish a fair value. Like most VCs,  we try to extract recent comparables of similar companies that have been funded. There are some rules of thumb with regard to stage and industry. However for the most part, these are just data points that help with a predominantly qualitative process.

At the end of the day, the most important job you have as the founder of a start-up is to make sure that your company is well capitalized to attack the opportunity you’ve identified and sustain the lean early days. Whether you’re taking investment dollars from friends, angel investors or venture capitalists, realize that the first money is the most expensive. If you have the chance to raise capital for your start-up and it’s not exactly the valuation you had hoped for, think twice before turning it down. Remember one thing when raising money for your start-up, drink when served…


12 Responses to “So What Is Your Start-Up Worth?”

  1. Jana Briggs says:

    Excellent post Mark. Thanks for sharing. :)

  2. Mark, thanks for the great read.

    As a startup (two years in) and self-funded I can testify to the "lean" early days. That being said, the longer one can go without obtaining funding, the better valuation that they will have. There is a balance there, however.

    The balance is struck between the market opportunity and competition. Wait too long, and the opportunity is gone as others enter the market or the market changes.

    Funding makes a lot of sense for many types of tech-centric offerings because the dollar is in the volume. And, it makes sense for capital intensive operations like manufacturing, but knowing when it makes sense is not cut in stone. I strongly encourage the dialog with multiple funding sources. I think the real key is to know when to drink and when to say no thank you - politely.

  3. MattCope says:

    Who are you fooling? If it's a good idea, you invest $1mm at a $5mm valuation then go play golf!

    Kidding, of course. : )

    I've been re-reading Getting to Yes recently. One of the major lessons is to negotiate in terms of interests (I'd like to avoid red lights, even if the trip is longer) versus positions (Let's take the highway).

    I wonder, are there opportunities to negotiate on the basis of interests, rather than positions, in the VC investment process? It seems like, more often than not, the negotiations are positional ("Your company is worth $10mm." "No, it's worth $20mm." "Ok, let's call it $15mm.")

    Any thoughts?

    • Mark Solon says:

      Hmmm, interesting concept Matt, but I wonder how it would work, practically speaking. Can you give me an example or two?

      • MattCope says:

        Well, the classic example is two people fighting over an orange.

        Their positions are clear - both want the orange. An example of a resolution to this conflict (where both are equally dissatisfied) results in cutting the orange in half.

        But neither articulated their interests. While one wanted to eat the fruit, the other wanted to use the peel to bake a cake.

        Had they framed their negotiation in terms of their interests rather than their positions, the net benefit to both would have been greater.

        A real-world example is the resolution of Israel's occupation of the Sinai after 1973. The position of each party: "It's mine." But Israel's interest was security, and Egypt's interest was sovereignty over historically Egyptian land. An agreement that returned a demilitarized Sinai to Egypt met both parties' interests.

        So, I'm wondering if there's any application of this framework to venture investing. Maybe there's not. But the phrase "equally dissatisfied" - in the context of my rereading of Getting to Yes - got the gears turning.

        • Mark Solon says:

          Okay Matt I get it. But I'm still scratching my head how that would work in this context. Help me out here pal!

          In 15 years of negotiating these things, when both sides honestly leave equally dissatisfied, it's a good indicator that a fair deal has been struck, but I'd love to improve upon that!

          • MattCope says:

            Well, I suspect that sometimes, you negotiate on the basis of interests, but you might not refer to it as such.

            Maybe a good example would be an equity vesting timeline for key hires.

            Using a positional tactic, you would offer a 5-year schedule, knowing you would concede a 3-year schedule. The other side might offer a 1-year schedule, expecting to settle on a 3-year schedule. But that's time-consuming, and once you've dug yourself into a position, it's psychologically difficult to make a concession.

            The underlying interest here is attracting the best talent possible - and it's one that's shared by both parties. So a better way to attack the problem would be by having both parties invent solutions to help address this interest - maybe it's employee benefits, or a larger cash budget for salaries, etc.

            Maybe this framework doesn't suit the actual valuation of a start-up, but as you know, there's lots more things that go into a VC investment than the valuation.

            And again, I suspect this process is something you do all the time, but don't refer to it in terms of "interests" vs. "positions".

            If you have the time and inclination, check it out on Google Books:
            Start at page 3, and if you feel like it doesn't apply to the VC world after 5 pages, feel free to put it down.

  4. Two quick things:

    A wise man once told me, “If someone offers you money, find a way to take it.” What that means in this situation is if you are an entrepreneur and a respected source (be that VC or angel) offers you money, then it is very likely that the valuation - while maybe not to your dream number - is at least reasonable. Feel free to negotiate, but in the end, find a way to say yes.

    Second, the most likely outcome is your start-up’s valuation was zero, not because it isn’t a great team/idea/market, but because for all your best efforts, most start-ups fail. Go into the valuation discussion with this reality in the back of your mind, and a second reality too, that the ONLY thing companies die from is running out of cash. All the other bad things can hurt you, but run out of cash and it’s over. So, don’t try to optimize for dilution (of lack thereof). Optimize for cash!

    Final wise man comment from my past: “If you make the pie big enough, you can leave some on the knife.”

  5. Mark Solon says:

    For all you readers, Gerry is one of the all-time good guys in venture. He's been at OVP Ventures in Portland for 25 years and enjoys one of the best reputations in the business. You can learn a lot from him at his blog -

  6. Mark Solon says:

    For all you readers, Gerry is one of the all-time good guys in venture. He's been at OVP Ventures in Portland for 25 years and enjoys one of the best reputations in the business. You can learn a lot from him at his blog -

Post a new comment