It’s mostly depend on the angle you are coming to this good question. If you are the founder, valuation matters because it determines the share of the company you are going to give away (to investors) in exchange for money. If you are the investor, you want to make sure it’s the right deal in terms of risk/reward or give/get.
When you listen to experts in this domain, in most cases, the answer is something like: “It is a form of art rather than science”. But this is not very helpful, is it?
Let’s break the puzzle into few pieces and see how can we think on each one of them. Here are few questions to help us identify what we are doing in each piece. We start with ‘What we are going to solve’ (=problem) and with ‘How we are going to solve it’ (=solution). Later, we should see what is the potential (=market) and what are the risks (= direct/indirect competitors). We also need to show the team and why it’s capable to deliver.
- What is the problem you are addressing?
Can you present it in a way that it will be familiar to potential investors?
- Is it a tough problem to solve?
- Is it a real market need? or is it just a nice to have solution?
- Is it a real customer pain point?
- Will customers will be willing to pay for it? How much?
- Why is it important to solve this particular problem?
- What is your unique solution to the problem?
- How does it work? Is it a real improvement (e.g. x times better) than other solutions to the problem?
- Does your solution require to educate the market? or is that already competing with other products/services?
- Who will be the customers? How do you plan to reach the first X customers?
- How big is the market opportunity?
You wish it to be above $1B but it’s better to give real numbers even if they are way less.
- What are the current solutions? Are they ‘good enough’?
- What are the future solutions that others are working on?
- Which companies may compete with you on the same budget?
- How is yours differentiated; what’s its unique value proposition relative to the competition; why will your solution win? What intellectual property or other barriers to entry will keep you ahead of the competition?
(!) Tip: The best scenario is that your solution is that you gaining ‘monopoly’. As Peter Thiel put it “…all companies should strive to build a monopoly”.
If not, you have to show how you plan to stay ahead of the pack that will converge on this opportunity.
You wish to show that the core team (founders and the first employees that could have been founders) are build for the job. They should have the skill set and hopefully – the right experience. Your team is going to be with you for the ‘full marathon’ and there will be a lot of unexpected events. The grit and the skills of your team will determine whether you can effectively pivot and excel.
- Who is your management team?
- What is their background and why are they uniquely qualified to run this venture?
- Can they deliver the solution to market?
- Are there any significant holes? How do they plan to fill them?
- How do they plan to scale?
What is your business plan? Provide a multi-year (=could be 2 years not more) income statement and capitalization plan that includes how much money you plan to raise, when you will need it and what will you use it for.
It’s critical to show what key assumptions are you basing your plan on and how the metrics will change if/when these assumptions will change. You need to think on alternatives and even try to give them probabilities.
(!) Tip: It’s good to have a spreadsheet with all the details for yourself, but that’s way more detail than anybody’s going to see at the beginning. Initially boil it down to 2-3 slides. Also, avoid ‘we will build it so they will come’ or some other ‘nice’ stick growth curves that goes ‘up and to the right’.
Investors that you want, won’t buy into these.
The main challenge is that people are very busy so you need to get all this on a one-pager. Later, you can send your (12+-) pitch deck and give more from your story.
How can we gain a higher valuation?
I would try to see how my business is fitting the points below.
The more fitting – The better chance the valuation will be higher.
- A sector that gets attention: investors that wish to enter a hot sector may also be willing to pay more. Few examples: virtual reality, augmented reality (who said ‘Pokemon Go’?), bitcoin and block chain technology, AI, Bots etc’. It’s a moving target that change quickly
- A strong and experience management team: serial entrepreneurs gets a better valuation. A great team with experience gives investors faith that you can execute and that you got grit.
- A functioning product: Demo is the best pitch. By far.
- Traction: If you got customers – use them. Nothing shows value like customers telling the investor that you have value AND they are willing to pay for it. The point of a company’s existence is to sell and make profit, and ‘the proof is in the pudding’ when you can show investors that you have happy customers that are paying for your product or service.