When the partners of a start-up decide to raise funds, they will then have to determine the needs to be financed. These elements are obvious prerequisites for entering a period of financial negotiation with investors. Valorize their start-up
Why Is It Complicated To Promote A Start-Up?
The valuation of a company corresponds to its market value at a specific time. It takes into account history, present, and future projections. Valuation is a crucial step in preparing for fundraising. The complexity of valuing a start-up is as follows: it cannot be based on historical elements, rarely on the present, but mainly on the future. This principle is all the more true when it comes to raising funds within the framework of seed capital (the first fundraising, which sometimes even occurs with the creation of the company).
Also Read: How Is Startup Culture In Hyderabad?
On What Criteria Are Start-Ups Valued?
The first criterion, and undoubtedly the most important, is the people gathered around the project. Investors attach great importance to the cohesion of the team, to its skills, to the adequacy between the know-how of each person and the needs of the project, and the experience of each participant. The presence of one or more experienced contractors is an asset. Next, the consistency of the project is also essential. Investors must be convinced of its strong potential. To do this, they will analyze in particular:
- The characteristics of the targeted market,
- The concept developed,
- The innovations,
- Progress in research and development of the product or service,
- Competitive advantages,
- The business model.
Finally, investors will obviously be interested in the financial forecast, mainly the income statement and the cash flow plan. The elements included therein allow the application of economic valuation methods.
Methods That Can Be Used To Promote A Start-Up
There are many methods of business valuation. However, start-ups constitute a particular ecosystem.
The Unsuitability Of Several Traditional Methods
Given the absence of historical activity and customer base, several traditional methods of company valuation are not applicable to start-ups. It is impossible to use:
- Heritage enhancement,
- A valuation based on historical performance (margin, EBITDA, result, etc.),
- or A valuation calculated on the basis of turnover.
These methods are reserved for valuing traditional and established companies (i.e., those with a few years of activity behind them). They are not suitable for start-ups in the fundraising phase. Here, valuation can only be carried out on the basis of future results or by comparison with operations of the same type.
Valuation By Discounted Cash Flows
This method consists of evaluating the start-up by updating its future results. It is ideally suited to fast-growing companies (i.e., start-ups raising funds) since we focus on the future wealth produced by the company rather than on historical elements. With this approach, it is first necessary to determine the value of the company’s future cash flows. Then, they must be discounted until a future date, which involves calculating a discount rate.
Valuation With The Comparative Approach
Investors can also take into account their experience and the market trend to get an initial idea of the valuation of a start-up. When they exist, it is possible to make comparisons with other fundraising carried out by competing start-ups. For information:
- An internet search generally allows you to learn about the characteristics of the fundraising carried out by the start-ups studied (in particular, their amount).
- Then, consultation of the company’s legal documents (capital increase minutes, updated statutes), available on infogreffe or société.com, can help determine the valuation. In fact, it is enough to make a reconciliation between the amount of the fundraising and the share of capital allocated to investors.
This method is only interesting if competing start-ups have recently carried out fundraising.
Calculation Of The Investor’s Potential Capital Gain
An investor’s motivation is to realize added value over a specific time horizon (generally five years). To determine his potential added value, he needs to know the potential value of the company in 5 years. From there, he can:
- Estimate your potential gain (sale price – current valuation),
- Determine the maximum investment that he is prepared to make,
- And assess whether the total investment is compatible with the valuation of the start-up.
Of course, there must be a correlation between the degree of risk linked to the investment and its potential capital gain. Here, it is more about determining a floor valuation.
The Business Plan Is Essential To Promote A Start-Up
As valuation is carried out on the basis of future elements, the production of a business plan is essential. In addition to the current financial tables (forecast income statement, forecast balance sheet, cash flow plan), significant work must be accomplished to present the project: its market, its team, its offer, and its business model. Financial forecasts are made over a minimum period of 3 years. As a general rule, we plan over five years. The financing plan and the cash flow statement financially justify the overall amount that needs to be financed. The business plan is the support used to present the project to investors and begin negotiations related to fundraising.
