How Should You Value an Early Stage Company?
Ralph Shale provides some interesting insights for angels on how to value an early stage company.
Investors should try to use a range of methods to validate what is a reasonable valuation. The only certainty in any valuation is that it will be wrong, in hindsight either too high or too low.
Valuing any business is an art not a science, with a lot of room for personal interpretation. There are a number of valuation approaches that investors can use. The best advice is to cross-check several before determining what is or not a reasonable valuation. My own approach:
Value invested to date
Although this is probably the crudest approach, it is interesting to understand how much has been invested to date to get the company to its current position. This should include both cash and an allowance for time (sweat equity). This ‘replacement’ cost can then be adjusted for the following:
- What are the barriers to entry for competitors, such as intellectual property rights?
- How long would it take a competitor to replicate the opportunity?
- Has the investment to date been 100% effective? If money invested is going down the wrong path, the opportunity should be excluded.
- What is a reasonable return on the investment, given the risks taken by the entrepreneur and investors?