Finance for Entrepreneurs: How to value startups?

Valuation is a funny game, especially when it comes to startups! While speaking at a recent panel I was intrigued by the number of times companies that were going after ‘valuation’ rather than sustainable ‘value’, were being quoted. This led me to raise the question – Should entrepreneurs go after ‘value’ or ‘valuation’? But how are we to value startups? Is there any particular method? During a recent competition where I judged (along with an entrepreneur) a valuation competition I realised that almost all students participating in the event were ill-equipped to value startups. Read here about the experience.

I find that even faculty of accounting and finance are not exposed to the continuously evolving approaches to valuing startups. While it is easy to dismiss most of these methods as non-scientific, one must acknowledge that the billions of dollars being invested are using these methods. Hence it makes sense to expose ourselves to them. This is not a tutorial on how to conduct the methods, but a consolidated list of many widely used methods to value startups. While I intend to detail every one of them as individual posts later on the blog (Under the Series: Finance for Entrepreneurs), the proactive and inquisitive ones can search online and learn them too.

While there could be many variation and anymore, here are at least nine methods to value startups:

Venture capital method
Dave Berkus Method
Scorecard Method
Risk Factor Summation Method
Asset Value Method
Discounted Cash Flow Method
Earnings Multiple Method
Cost of Replacement Method
Comparables Method

While the first five methods are fairly logical to use with startups, the remaining four are almost impossible to be of value. But surprisingly many, if not most, students of finance use the bottom four in competitions and routine calculations.

Try your hands at exploring some of these methods or wait for a few weeks and I shall attempt to detail every one of them and justify their use (non-use) with startups.

Happy learning!