Pre-Money Valuation of a Startup
The worth of a company before anything is invested in it is the pre-money valuation.
As we step into 2025, the pre-money valuation in startups is marked by a resurgence in investor confidence. The normalization of revenue multiples is becoming important as startups pass through an environment that favors profitability over mere growth metrics.
As we analyze the pre-money valuation, it becomes clear that while opportunities abound—especially for innovative companies poised to leverage technological advancements—the path forward will require founders to prioritize fundamentals, demonstrate clear paths to profitability, and engage in transparent dialogues with potential investors.
Understanding pre-money valuation is essential for startups to succeed in challenges and opportunities. This article aims to help startup founders to find the complexities of securing funding through a clear understanding of pre-money valuation.
Pre-Money Valuation
Pre-money valuation is a crucial concept in the venture capital and private equity landscape, representing the business’s value before receiving external funding, any other investments, or before going public.
It considers the potential a company has from the start, and the progress of the company allows it to gain funding for further post-money valuations later on.
How to calculate your pre-money valuation?
Pre-money valuation is calculated using various methods that assess the company’s current assets, revenue, market position and growth potential. The formula is straightforward:
Pre-Money Valuation = Post-Money Valuation – Investment Amount
To better understand how the calculation works, let’s look at an example. Assuming that after a funding round of $300,000, the post-money valuation of your company is $500,000. This means that the pre-money valuation is $200,000. Here is how the calculation would look like:
Pre-money valuation = 500,000 – 300,000 = 200,000
Thus, in this example, the pre-money valuation is $200,000
Example of pre-money valuation
ABC Inc. has pre-money equity of $100 million with 2 million outstanding shares. The share price is $50.
| Pre-money Equity | $100 million | - |
|---|---|---|
| Outstanding Shares | 2 million | $50/sh |
| Funds raised | $54 million | - |
| Additional shares | 1,080,000 | - |
| Post-money valuation | $154 million | - |
| Total outstanding shares | 3.08 million | $50/sh |
ABC Inc. is looking to raise $54 million of equity at a pre-money valuation. To do so, they will have to issue an additional 1,080,000 shares. The company adds the $54 million to the pre-money valuation resulting in a post-money valuation of $154 million. There are a total of 3.08 million outstanding shares with a share price of $50. The formula is:
= $100 million
Pre-Money Valuation vs Post-Money Valuation
Post-money valuation is the worth of the company after receiving investment from external investors. It includes the latest capital injection and all external financing.
We explain the relationship with the help of an example here:
The formula for pre-money valuation is:
If a company has recently received a funding at $20,000 pre-money valuation, and it had 10,000 shares before the investment:
Share-price before funding = Pre-Money Valuation/Outstanding Shares
$20,000 /10,000 = $2 per share
The company issues 2,000 new shares to the investor (based on $2 per share):
Total Outstanding Shares (Post-Money) = 10,000 + 2,000 = 12,000 shares.
Post-Money Share Price remains the same at $2 per share.
- Post-Money Valuation = 12,000 X $2 per share = $24,000, or;
- Post-Money Valuation = Pre-Money Valuation + Value of new shares
= $20,000 + $4,000 (2,000 shares X $2 per share) = $24,000
| Pre-Money Valuation | Post-Money Valuation | |
|---|---|---|
| Definition | Valuation of a company before it receives any new investment. | Valuation of a company immediately after it receives new investment. |
| Timing | This is assessed before new investments are made | calculated after investments are included. |
| Predictability | Estimates about future performance | Reflect actual investment amounts. |
| Calculation | Post Money Valuation−Investment Amount. | Pre Money Valuation+Investment Amount. |
Pre-Money Valuation Methods
There are various methods to calculate the pre-money valuation of startups. Here are the top three methods investors use.
Scorecard Valuation method
This is one of the most preferred valuation methods by investors. In this method, the startup is compared to a similarly funded startup by modifying the valuation average based on various factors such as market, stage, or region.
Firstly, the average pre-money valuation is determined for the pre-revenue startup. It is best to consider and examine various startups across the region. This provides a good baseline for the valuation. After gathering the data, the next step is to compare the startup with other startups based on factors such as:
| Factors | Target | Max | Weighted Factor |
|---|---|---|---|
| Opportunity Size | 145% | 25% | 36.25% |
| Strength of Management | 120% | 30% | 36% |
| Technology/Product | 95% | 15% | 14.25% |
| Competitive Environment | 90% | 10% | 9% |
| Sales Channels/Partnerships/ Marketing | 85% | 10% | 8.5% |
| Additional funds requirements | 75% | 5% | 3.75% |
| Others | 65% | 5% | 3.25% |
| Total | - | - | 111% |
The way you rank these is highly subjective. But keep in mind investors rank the management team higher than the product. The reason they rank it higher is that the management team is the one that runs the business. If the product is flawed the team will detect it easily and sort it out, but if the team is not capable of running the business effectively then there is no chance of profits. Then you calculate the weights to derive the valuation. A weighted factor of 111% means that the valuation is 11% higher than the average of its competitors.
Venture capital method
In the venture capital method, you first derive the post-money valuation of the company by using the industry metric data.
- Pre-money valuation = post-money valuation — Investment
- Post-money valuation = Terminal value ÷ Expected Return on Investment (ROI)
The anticipated value of an asset on a certain future date is the terminal value. Typically the projection period is from 4 to 7 years. The terminal value needs to be converted into the present value for it to be significant. To calculate the terminal value, one needs to study some established companies’ average sales and then multiply the amount by a figure of 2.
For example, Toby Inc is looking to raise $1 million and has projected that they will generate $40 million through the sale of the company 10 years later. The terminal value = $40 x 2 = $80 million. For investors, the statistical fail rate is above 50%, angel investors usually target an investment with a 10-30x return on investment. We will take the anticipated Return on Investment as 20x for our pre-revenue startup. We raised $1 million, post-money valuation will be $80M/20x= $4 million.
Let us take another example to understand this better, one of our current investors has an exit strategy for 7 years later in 2022, with a 30% rate of return. Our estimated revenue in 8 years is $12 million. Using these values, we calculated that the exit value is $49.2 million, pre-money valuation is $6.4 million, with the post-money valuation being $7.8 million. The investor’s share is 17.9% (7.8-6.4/7.8 = 17.9%).
Berkus method
In the Berkus method, a number is assigned as a financial valuation to each of the major risk elements that all startups face. While determining the value of the startup, you give some credit to the entrepreneur for basic values and potential. Here we use both the quantitative and qualitative factors to evaluate the startup. This is based on 5 elements:
- Product Rollout or Sales
- Management Team’s Quality
- Prototype
- Sound Idea
- Strategic Relationships
| If Exists: | Add to Company Value up to: |
|---|---|
| Sound Idea (basic value) | $1/2 million |
| Prototype (reducing technology risk) | $1/2 million |
| Quality Management Team (reducing execution risk) | $1/2 million |
| Strategic Relationships (reducing market risk) | $1/2 million |
| Product Rollout or Sales (reducing production risks) | $1/2 million |
But this method does not stop on the qualitative drivers, as you will have to designate a monetary value to each element. The amount should be up to $500,000 ($½ million) for each category. This allows the pre-valuation of the startup to be around $2-$2.5 million. In the fifth year of the business, using the Berkus method you can set a $20M cap as per the targeted investor return. This provides a chance for the invested amount to increase in value by ten times over its life.
Common Pre-money valuation Mistakes that you Should Avoid
As a startup owner, you may be new to the business world and might not have adequate knowledge to avoid mistakes. So here is a list of a few mistakes that you can avoid preventing huge downfalls.
Don’t Assume that the valuation of your startup is straightforward
In the business world, you might notice that without adequate knowledge it is not easy to do many tasks, and sometimes even with sufficient knowledge, it is still a complicated process. So never assume that evaluating your startup is a straightforward process because it is not.
In any scenario, where you determine a value for the business that you are satisfied with, discuss it with professionals and potential investors. Make sure that the investors are on the same page as you and that both of you are not out of your comfort zone.
Don’t assume that the valuation is permanent
While negotiating with investors keep in mind that in the end, the company will be worth how much an investor is willing to invest. As the owner, you may not agree with this but keep in mind that this is not the only variable affecting the value of the startup.
There are many other factors that are mentioned in this article that affect the value of the startup and no value is accurate or permanent.
Interested in finding the pre-money valuation of your Startup?
Pre-money valuation is not just a figure ,it reflects the perceived market value of a startup before new investments are made. This can lead to better outcomes for both founders and investors alike. It is best to take the assistance of a professional to help you derive the valuation amount. They will make sure everything is done accurately and effectively.
One way to accurately evaluate your startup is through the help of tools. Online tools will prevent miscalculation, omission, and other errors that can happen by mistake when calculating the traditional way. Eqvista provides you with tools through which you can evaluate your company without mistakes and helps you determine a close to an accurate value. Check out our 409a valuation services or contact us today!
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