When raising investment for your startup there are a number of key documents you’ll need - a pitch deck and a financial forecast being the most obvious. You will also need to value your business and indicate how many shares (equity) you are offering in exchange for the investment being sought. Knowing the value of your business requires a deep understanding of your market, business model, and the broader economic factors. 

 

In this guide, our friends at Focused For Business, share how to build a credible valuation for your startup so that you have everything you need to get going. 

 

The Importance of Valuing a Startup Business

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The valuation figure of your business acts as a benchmark for your business’s worth, but it also plays an important role in attracting investors and keeping them interested. An unrealistic valuation can put investors off. A well thought out valuation demonstrates your grasp of the market, your businesses potential and the risks involved, which helps potential investors build trust in you and your plans. Whether you're seeking funding from angel investors, venture capitalists, or exploring other avenues, a compelling valuation can be the key that opens the door to the resources and support your startup needs to thrive. What is more, as your startup grows, a regularly updated valuation allows investors to track the progress and performance of their investment, providing them with the reassurance that their trust in your business is well-placed.

 

The Three-Step Approach 

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Focused For Business, who run the Funding Accelerator programme, recommend a three-step process to give you the structure and data necessary to determine a credible and compelling valuation for your business. They teach this - and provide tools that make valuation easy - as part of their programme but they’ve summarised the key points for us here: 

 

1. Theoretical Valuation Methods: A good place to start is by exploring  a range of methodologies that provide the practical input and insights you need to assess the market opportunity, monetisation and business model, and the competitive landscape. Using a range of valuation methods such as the Berkus method, the Venture Capital method, a Scorecard Valuation, and a discounted cash flow analysis helps you see valuation from a range of different perspectives. 
    

2. Benchmarked Valuation: Next, you can build upon the theoretical foundations, by benchmarking your startup's valuation against industry comparables, recent transactions, and public market data. By taking a deep dive into comparable company analysis you ensure that your theoretical valuation is not out of kilter with expectations for your stage of development and sector.
    

3. Grounding your Valuation in the Current Economic Climate: The final step in Focused For Business’ approach to valuation involves placing your startup's valuation firmly in the broader economic context. Factors such as interest rates, market trends, and macroeconomic conditions can influence your startup's perceived value, and push valuations up - or down. If you want to build an investor’s confidence in your valuation you need to compare your valuation to recent valuations.

 

This comprehensive three-step approach gives a well-rounded understanding of startup valuation, which will enable you not only to present a credible valuation to investors, but to have the evidence to back up your valuation and negotiate with investors too. 

 

Now you understand the approach we can dig into more detail.

 

Step 1: Theoretical Valuation

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Berkus Method

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The Berkus Method of valuation considers five key elements of a startup's potential for success: sound idea, prototype, quality management team, strategic relationships, and product roll-out/sales. By assigning a value to each of these elements based on what has been achieved to date, you can arrive at a preliminary valuation which gives a solid foundation for further refinement.

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Venture Capital Method

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The Venture Capital Method is a widely used valuation approach that focuses on the potential future value of your startup. This method involves estimating the future value of your business based on projected cash flows, and then discounting that value to arrive at a present-day valuation. This approach is particularly useful for startups seeking venture capital funding, as it aligns valuation with the rate of return venture capitalists seek to make during the time they back a startup. 

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Scorecard Valuation Method

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The Scorecard Valuation Method is a more comprehensive approach that considers a range of factors, including your management team, market opportunity, product, and traction. By assigning weighted scores to each of these elements, you can arrive at a valuation that takes into account the multifaceted nature of your startup's potential.

 

To get started, why not answer 10 quick questions to get an indication of your business’ valuation, using Focused For Business’ Valuation Calculator.

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Step 2: Benchmarked Valuation

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Building upon the theoretical foundations established in the previous step, the next phase of your startup valuation involves benchmarking your business against industry comparables, recent transactions, and public market data. This step will help you refine your valuation and ensure that it aligns with expectations for your sector and the stage of development of your business.

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Industry Comparables

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To start an industry comparables exercise you need to identify startups or companies within your sector that are similar in size, stage of development and business model to your own. We want to compare apples to apples, not apples to pears! Finding comparable data can be hard which is why Focused For Business offers a tool to support this process.  

 

Comparable Company Analysis

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Conducting a thorough comparable company analysis involves delving deeper into the financial and operational metrics of businesses similar to your own. This may include examining factors such as revenue, growth rates, profitability, and other key performance indicators. By understanding how your startup stacks up against these benchmarks, you can refine your valuation and identify areas where your business may be undervalued or overvalued.

 

Challenges and Things to Consider

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As you navigate the benchmarked valuation process, be mindful of the following challenges and considerations:

1. Data Availability and Reliability: Obtaining comprehensive and accurate data on industry comparables, recent transactions, and public market metrics can be a significant challenge, particularly for newer or less-established startups.
    

2. Adjusting for Differences: Recognise that no two startups are exactly alike, and adjustments may be necessary to account for differences in size, growth stage, geographic footprint, and other key factors.
    

3. Timing and Market Conditions: The broader economic climate and market conditions can significantly impact the valuation of your startup, so be prepared to adjust your benchmarked valuation accordingly.
    

4. Qualitative Factors: While quantitative data is essential, don't neglect the importance of qualitative factors, such as your management team, brand reputation, and strategic partnerships, which can also influence your startup's perceived value.

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Using a tool like Focused For Business’ Benchmark Assessment helps overcome some of these issues saving you time and money.

 

Step 3: Valuation Grounded in the Current Economic Climate

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When building a credible valuation for your startup, it is crucial to consider the current economic climate. This step ensures your valuation is realistic and reflects the current market conditions that can significantly influence your startup's value.

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Why the Economic Climate Matters in Startup Valuation

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Ignoring the economic climate can lead to overvaluation or undervaluation, either of which can be detrimental! A valuation that is too high may scare away potential investors who see it as unrealistic, while a valuation that is too low can leave you undervaluing the progress you have made and with insufficient capital to grow your business. Therefore, understanding and integrating economic factors into your valuation process is essential for accuracy and credibility.

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Factors Influencing the Economic Climate

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1. Market Trends: Identifying and understanding current market trends is essential. This includes technological changes, regulatory updates, macroeconomic factors such as the COVID-19 pandemic, and shifts in consumer behaviour. For instance, a surge in remote work technologies due to the pandemic has driven higher valuations for startups in this sector.
    

2. Interest Rates: Higher interest rates increase the cost of capital, leading to lower valuations. Conversely, lower interest rates reduce the cost of borrowing, which can boost valuations. It is important to track interest rate trends and incorporate them into your valuation model.
    

3. Investor Sentiment: Investor confidence can significantly affect valuations. In a bull market, investors are more optimistic and willing to invest at higher valuations. In a bear market, pessimism prevails, and valuations tend to be lower. Gauging investor sentiment helps in adjusting your valuation to reflect market realities.

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It isn’t always easy to know how to interpret these trends which is why startups on Focused For Business’ Funding Accelerator programme gain free access to a specialist database that not only provides the information needed to ground a valuation in the current economic climate but also gain guidance on how to interpret and benchmark their analysis.

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Bringing it all together

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The best way to develop a credible valuation for your startup is to use a three-step approach: 
 

1. Theoretical Valuation 

2. Benchmarked Valuation 

3. Grounding your valuation in the current economic climate.
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This approach not only builds credibility with investors but, in so doing, also increases your chances of attracting and securing investment. A well-rounded valuation method shows investors that you have a deep understanding of your business and the market environment, making your startup a more attractive investment.

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If you need help in valuing your startup, a good place to start is at one of Focused For Business’s free Funding Strategy Workshops.