Am a start-up (see "My Story" section for the background) wondering how to do a business valuation.

We have no revenues today, but what my investors will be "buying" is our plan and industry knowledge. Once we get going, the Company projects a 10% Net Income on $40M in annual revenue.

Initial capital will be $13M, and investor looking to get out in 3-5 yrs at 20% annual ROI..

Ultimately, valuation of a start up company is a result of what someone with money is willing to pay to make the investment vs. what the company is willing to give up to receive the money.

There are a number of ways to value a company with the most common forward looking (pro-forma) valuation being what is called a Discounted Cash Flow Model. Using your projected financials, you make a few adjustments to get to Free Cash Flow, and then discount that back to the present using a formula comprised of the risk free rate of return (10 year US Treasuries for example), market rate of return (what someone would expect if they invested in public markets like a S&P ETF), size of company risk (the smaller, the riskier), and specific company risk (experience of founders, IP protection, market adoption rates, etc.). I've seen discount rates all over the place, but I recently built a model that resulted in a 27% discount rate.

Your investor will likely use similar models and you should expect they will have a higher discount rate than you - so be sure to justify your assumptions and be prepared to defend them in negotiations over value.

One way that I recently worked with a company to AVOID the conversation of value is to hold a friends and family (and Angels) round based upon a convertible note. This way, investors will receive some percent return on their investment, have seniority in liquidating any assets (including any IP you may have) should the company fail, and you can put off the valuation discussion until you have begun generating revenues - at which point you have more options to develop more tangible valuations. If the company builds momentum, your investors can convert when you are prepared to go after a Series A round - the real money.

Because the first money is is always the riskiest, too often, I see entrepreneurs give away their entire company on day one by insisting on a quick infusion of cash (in your case, $13m). Most companies I have worked with require a significant amount of infrastructure put into place before they can responsibly use those funds.

My advice to entrepreneurs that want a long term relationship with the company they have conveived is to build enterprise value first, get outside money second.

Hi travelgreg--- many thanks for a clear and concise response!

The approach you mention (F&F/Angel small $$ first, then A-round once rev-positive) is certainly very sound. I am challenged to adopt it, however, due to the capital-intentsive nature of this *manufacturing* business. We (my partner and I) had originally hoped to get off the ground with a small operation (one that could produce, say, 750,000 gals / year), which would cost about $500k to build. But we've found that the SCALE needed (i.e. size of operation, 5M gallons/year minimum) in order to achieve a viable and attractive net margin makes the "start small" concept a challenge to fund..

I know, I know... "If it was EASY, then......" :-)

thanks again!

Hello biodieseler.

It has been several months now since you posted on this forum. What did you decide to do?