**Basic Start-up Valuation - How Much R U Worth**

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### PowerPoint Presentation:

START-UP BASIC VALUATION HOW MUCH ARE YOU WORTH?### PowerPoint Presentation:

Introduction: dude, don't freak### PowerPoint Presentation:

I know what you are saying…### PowerPoint Presentation:

I know what you are saying… Oh god. Anything but finance.### PowerPoint Presentation:

But, Seriously. Don't sweat it. I know what you are saying… Oh god. Anything but finance.### PowerPoint Presentation:

But, Seriously. Don't sweat it. I know what you are saying… Oh god. Anything but finance. Finance is actually quite simple### PowerPoint Presentation:

But, Seriously. Don't sweat it. I know what you are saying… Oh god. Anything but finance. Finance is actually quite simple when you focus on what matters.### PowerPoint Presentation:

And you can't avoid it.### PowerPoint Presentation:

And you can't avoid it. Because if you look weak### PowerPoint Presentation:

And you can't avoid it. Because if you look weak If you actually let excel know you're scared### PowerPoint Presentation:

And you can't avoid it. Because if you look weak If you actually let excel know you're scared Then you'll be on your ass### PowerPoint Presentation:

So let's talk about valuation### PowerPoint Presentation:

So let's talk about valuation Since you can’t avoid it### PowerPoint Presentation:

So let's talk about valuation Since you can’t avoid it Since it's not actually that hard### PowerPoint Presentation:

So let's talk about valuation Since it's not actually that hard And since it is one of those topics that absatively cannot be delegated to finance Since you can’t avoid it### PowerPoint Presentation:

valuation is the process of defining what your start-up is worth! definition### PowerPoint Presentation:

definition valuation is the process of defining what your start-up is worth! You do that in 3 simple ways### PowerPoint Presentation:

definition valuation is the process of defining what your start-up is worth! You do that in 3 simple ways you're worth what you own### PowerPoint Presentation:

definition valuation is the process of defining what your start-up is worth! You do that in 3 simple ways you're worth what you own you're worth what you can earn in the future### PowerPoint Presentation:

definition valuation is the process of defining what your start-up is worth! You do that in 3 simple ways you're worth what you own you're worth what you can earn in the future you're worth what the market says you're worth### PowerPoint Presentation:

Let's go through each of those…### PowerPoint Presentation:

Part 1 You're worth what you own### PowerPoint Presentation:

Valuation based on actual assets is probably the simplest and most intuitive### PowerPoint Presentation:

You are worth exactly how much you have in your pocket ! * (Advanced reader: What is in your balance sheet today?)### PowerPoint Presentation:

Actually, What you’re worth right now can be divided into 2 major categories of value### PowerPoint Presentation:

Tangible assets inTangible assets Inventory Cash or financial assets Buildings, land, vehicles, equipment Computers, desks, chairs (anything you can hock) Accounts receivable (what people owe you) Agreements that could be novated ( franchize or distribution agreements) Copyrights Patents Trademarks Trade secrets Brand / reputation Unique knowledge### PowerPoint Presentation:

So the first thing you need to do is figure out how much you can sell all the tangible & intangible assets for### PowerPoint Presentation:

But…### PowerPoint Presentation:

You’ll probably also have some liabilities too### PowerPoint Presentation:

Rental agreements Accounts payable Bank loans Unpaid salary Salary liabilities (notice periods) Tax owed Bonds Leases Pension contribution Product warranties Other Contingent liability Shareholder debt### PowerPoint Presentation:

You need to sum up all these liabilities as well### PowerPoint Presentation:

And when you do that, you’re ready to value your firm: Firm value = (Tangible + intangible assets) - liabilities### PowerPoint Presentation:

Simple right?### PowerPoint Presentation:

Well simple comes at a cost### PowerPoint Presentation:

Of the 3 methods, this results in the lowest valuation### PowerPoint Presentation:

Which is why, it is really only used during liquidations### PowerPoint Presentation:

Part 2 You're worth what you can earn in the future### PowerPoint Presentation:

Of course the assets & liabilities method does not work well when you are pitching a true start-up which has nothing other than a big dream### PowerPoint Presentation:

Because you have no assets### PowerPoint Presentation:

In that case, we need to value the business based upon what is possible in the future### PowerPoint Presentation:

But wait? Why would anyone place a value on possible future money### PowerPoint Presentation:

Well it turns out that possible future money does have value### PowerPoint Presentation:

Depending on how possible, and how much future money we’re talking about### PowerPoint Presentation:

Think of it this way### PowerPoint Presentation:

If your mother told you she’d give you 20 dollars tomorrow if you did 1 hour of chores today, would you do it?### PowerPoint Presentation:

Sure you would### PowerPoint Presentation:

What a good child### PowerPoint Presentation:

You trust mom. You need the dough tomorrow. So you’ll pay in advance### PowerPoint Presentation:

You see . promised Future money does have value today### PowerPoint Presentation:

How about if a bank told you that they’d give you a guaranteed 110 dollars in a month if you deposited 100 dollars today?### PowerPoint Presentation:

Sure you would### PowerPoint Presentation:

The point is that there is definitely value today for future money### PowerPoint Presentation:

However, there is a limit### PowerPoint Presentation:

The value of future money and the value of money today is not equal### PowerPoint Presentation:

Would you pay me 100 dollars today if I promised that I’d return 100 dollars in 10 years?### PowerPoint Presentation:

Come on…you can trust me. I’ll pm you my bank details### PowerPoint Presentation:

No, of course not### PowerPoint Presentation:

First, if you deposited the 100 bucks in a bank, you’d get more than 100 back in ten years because of interest (well maybe not much more)### PowerPoint Presentation:

In other words, the valuation of future promised money is affected by opportunity cost### PowerPoint Presentation:

Second, who’s to say that I won’t run off with your money, or get hit by a bus### PowerPoint Presentation:

So not only must we consider opportunity costs, we must also consider risks### PowerPoint Presentation:

In other words, future promised money has value today, but it is not 1 for 1 value### PowerPoint Presentation:

Future promised money is worth less than the same money right now.### PowerPoint Presentation:

In other words, Future money needs to be discounted### PowerPoint Presentation:

Fortunately, an army of mathematicians worked their magic and came up with a couple of nifty formulas### PowerPoint Presentation:

Internal rate of return ( irr ) and net present value ( npv ) (Actually, it’s really the same formula, just solved forwards and backwards)### PowerPoint Presentation:

These formulas look at your future promised cash flows, and discount them for today (Sometimes we call this discounted cash flow)### PowerPoint Presentation:

It is not actually hard math, but it isn’t easy math either (Unless you are from anywhere outside of the US, in which case, it is easy)### PowerPoint Presentation:

Fortunately, bill’s boys in the ms excel team have taken that math and transformed it into a very simple formula in excel which 7 of 9 chimpanzees can use### PowerPoint Presentation:

The formula is: = npv (discount rate, cash flow1, cash flow 2,…)### PowerPoint Presentation:

= npv (discount rate, cash flow1, cash flow 2,…) So, in order to use ms excel to calculate your start-up’s value, you need to know: What is the discount rate What are the future cash flows### PowerPoint Presentation:

= npv (discount rate, cash flow1, cash flow 2,… ) Getting Future cash flows is easy### PowerPoint Presentation:

You just grab the profit (not revenue) line for your next 5 years (you get that in your pro-forma p&l ) (note for advanced users: I am not a fan of terminal value for start-ups, so I won’t cover it here. I’m also not considering debt since it is a start-up. Corporate treasurers need to read something more advanced than this deck, as I’m sure you realized already) = npv (discount rate, cash flow1, cash flow 2,… )### PowerPoint Presentation:

Choosing the Discount rate however, is slightly harder = npv ( discount rate , cash flow1, cash flow 2,…) (Sometimes people refer to discount rate as weighted average cost of capital or WACC)### PowerPoint Presentation:

The discount rate is a number from 0 to 1. the closer to 1 you get, the more you discount = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

So a discount rate of .2 (20%) is not very risky at all, and a discount rate of .8 (80%) is super risky. = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

The discount rate is actually calculated based on many criteria = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

For example… = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

risk How confident is the investor about the likelihood the profit you forecasted will actually materialize (revenue and cost assumptions accurate?) = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

Opportunity costs How much money would the investor make if she invested the money elsewhere – especially in risk-free things like t-bills …And what about inflation… = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

Market norms The discount rate will also vary from market to market where the wisdom of crowds has generated rules of thumb over the years ( ie : Pharma rates are different from e-commerce portal rates) = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

However, here is my personal INVESTING rule of thumb, GENERICALLY = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

PHASE DISCOUNT RATE Angel Round .8 Series A .6 Series B .4 Mezzanine .2 = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

IN OTHER WORDS, IF YOU ARE USING A DISCOUNT RATE OF 50% AT THE IDEA STAGE, I’M JUST NOT GOING TO BITE = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

BECAUSE THERE IS JUST SO MUCH DAMN RISK THAT YOUR FORECASTS WILL BE WRONG, OR YOU’LL DIE IN EXECUTION = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

As I negotiate your discount rate with you, I’d also be considering a motley of factors… = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

History of stable growth and profits Product Cycle point Size Market share Industry Customer base -diversification Growth potential-topline and bottom line trends Competitive positioning Product mix Uniqueness The value of similar companies Strategy for continued growth and profitability Timing### PowerPoint Presentation:

SO, BY WAY OF EXAMPLE…IMAGINE A FRESH START-UP THAT EXPECTS TO HAVE PROFIT OVER THE NEXT 5 YEARS OF -250,000, 0, 250,000, 2,000,000, & 10,000,000 = npv ( discount rate , cash flow1, cash flow 2,…)### PowerPoint Presentation:

Using excel, today’s value of this firm’s future, promised profit is $623,719. That means, if I invested $150K today, I’d get ~25% of the firm (Which means 2.5M return in year 5 if we distribute the year 5 profit and I get my 25%)### PowerPoint Presentation:

Ok, that's npv Let me quickly mention irr as well since irr is quite popular these days### PowerPoint Presentation:

As we mentioned before, Internal Rate of Return (IRR) is like standing the NPV formula on it's head and shaking it up and down### PowerPoint Presentation:

The IRR is the discount rate that would make the NPV zero Or , in other words, the IRR is the rate of expected growth The higher the IRR, the better the investment### PowerPoint Presentation:

Again, bill's boys came to the rescue =IRR (investment, cash flow 1, cash flow 2…)### PowerPoint Presentation:

In this example, we assume that we invest 150K in a start-up. the investment loses 250K in Year 1, breaks even in year 2, makes 250K in Year 3, 2M in Year 4 and Exits in year 5 for 10M Given this, the investor irr is 127.5% In other words, We expect this investment to grow 127.5%. Much better than a savings account!### PowerPoint Presentation:

So….uh…which do you use: irr or npv ?### PowerPoint Presentation:

Honestly, it depends on the audience Use whatever the audience prefers### PowerPoint Presentation:

That said, while irr is great for giant multi-national firms, I personally don't like it for start-ups### PowerPoint Presentation:

To me, IRR works best when comparing projects of equal risk or equal cost & income realization### PowerPoint Presentation:

it is great for a big firm trying to compare whether to build a new data center of extend the existing one### PowerPoint Presentation:

but IMHO, it is not so useful at comparing whether to invest in a bio-informatics start-up or a B2B e-commerce portal, 2 projects with significantly different risk & spend profiles### PowerPoint Presentation:

THERE IS ONE LAST THING I WANT TO ADD### PowerPoint Presentation:

IN AN ACQUISITION SITUATION, rather than an investor situation, HOPEFULLY THERE IS SYNERGY VALUE BETWEEN BUYER AND SELLER### PowerPoint Presentation:

WHICH MEANS THAT PART OF THE VALUE OF THE DEAL IS NOT JUST YOUR FUTURE REVENUE, BUT also THE POSITIVE IMPACT ON THE BUYER’S REVENUE AS A RESULT OF THE DEAL### PowerPoint Presentation:

WHETHER THIS CAN BE ADDED TO THE BASE VALUATION IS UP TO YOUR NEGOTIATION SKILLS, BUT imho , IT SHOULD BE FACTORED IN TO BE FAIR### PowerPoint Presentation:

Part 3 You're worth what the market says you're worth### PowerPoint Presentation:

The final method of valuation leverages the wisdom of crowds### PowerPoint Presentation:

Specifically, your value should be similar to the value of similar firms, in similar industries, in similar life cycle stages, at this point in time### PowerPoint Presentation:

Basically, your value is the value that the invisible hand of the market gives you### PowerPoint Presentation:

The most common way to guestimate market value is to look at comparables (similar- ish companies to yours)### PowerPoint Presentation:

And since no company is just like yours, you need to take a bunch of data points to triangulate### PowerPoint Presentation:

This is usually done with p/e ratio Actually, you can sometimes also consider: Price to Book Ratio, Equity / Sales, Equity / Cash flow, Equity / PAT, Equity / Book value of share. But PE is far more common for start-ups### PowerPoint Presentation:

p/e stands for price / earnings (Think of price as synonymous with valuation for the moment)### PowerPoint Presentation:

So if a firm’s value is 8 million and their earnings were 2 million, the p/e ratio would be 4 since 8 / 2 = 4### PowerPoint Presentation:

We refer to the value of 4 as “the multiple”### PowerPoint Presentation:

To get a value for you, we need to use the average multiple across all the comparable firms who have been valued. Let’s assume for now, that the average multiple turned out to be 4### PowerPoint Presentation:

With the multiple and your profit this year, we can reverse calculate your price (valuation)### PowerPoint Presentation:

If the multiple is 4 And your profit was 500K, then Your valuation is 2 million price / earnings = multiple Price = multiple x earnings 2M = 4 x 500K### PowerPoint Presentation:

This magical multiple is not an absolute number of course### PowerPoint Presentation:

The p/e ratio can change dramatically from industry to industry and it can change in the same industry over time### PowerPoint Presentation:

Because like any wisdom of crowds, it is sensitive to market sentiment### PowerPoint Presentation:

And market sentiment is fickle, irrational, uninformed, and full of emotions *(hey classical economics…you can kiss my A### PowerPoint Presentation:

During the dot.com bubble, I saw tech valuations of 15x in asia . Whereas Today, tech valuations are closer to 4x### PowerPoint Presentation:

The value of these companies did not change### PowerPoint Presentation:

What changed was the hype surrounding the market### PowerPoint Presentation:

summary### PowerPoint Presentation:

Thanks for reading. I told you it wasn’t all that hard### PowerPoint Presentation:

Here’s what you need to remember### PowerPoint Presentation:

There are 3 ways to value your firm: What you own (use assets – liabilities) – used for liquidation What you’ll earn in the future (use Net Present Value) – used for investment What the market says (use P/E Ratio) – used for acquisitions### PowerPoint Presentation:

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