What is Valuation?
In finance, valuation is the process of determining the present value of an asset. Valuations can be done on assets or on liabilities. In a business context, it is the price that a third party would pay for a given asset.
Valuation is a very subjective thing. Value of same product can be very different for two persons at same point of time, for e.g., a cricket bat signed by Sachin Tendulkar will be of a great value to a cricket fan but it will have no value to someone who does not follow cricket. Similarly, value of business will differ from buyer to buyer depending on multiple factors.
Importance of Valuation in Start-up’s
Raising of funds by issuance of Equity Share Capital is very important source of funding for start-ups. This is why valuation is important for Business’s as it helps in defining the equity which they have to give to a investor in exchange of funds. It is also of great importance for an investor as they need to know how much company’s share they will receive in exchange of the funds invested in the company.
The valuation of company should be done in such a manner that it is neither too high nor too low. Quote a high value and you may not be able to attract any investor and conversely, quote too low and the you may end up giving a larger chunk of equity to investors.
Key Drivers for Valuation
There are multiple factors that affect the valuation of business. We will discuss here some of the important one’s that drive the valuations.
1. Traction
Business traction is commonly defined as the progress and momentum of a start-up company. Start-up’s growth tendencies and the speed and acceleration of this growth help indicate business traction. This is one of the major factors that impact the valuation. It is proof of customer demand and shows that a start-up is taking off.
2. Reputation
Before proceeding ahead with the round of valuation, founders need to ensure a positive image in the market. One of the most important things that an investor looks at before investing is the founder’s image and his capability.
3. Prototype
Development of a prototype is a major factor that can influence the decision of an investor. A very brilliant idea with no prototype may attract less value compared to a less brilliant idea having a prototype. So, before planning to pitch an investor, make sure the prototype is ready.
4. Pre-valuation Revenues
Undoubtedly, revenues are important for any company as they make it easier for investors to carry out the valuation. So, if a product has hit the market and is already generating revenue, it could sway the investor’s decision in the favour of that start-up, and prove to be a real deal sealer. And if the start-up is generating profits as well than it will be an icing on the cake.
5. The industry
If the start-up belongs to a booming industry, it is highly likely that investors will pay a premium. This implies that it is important to choose the right sector as it will increase the worth of a business enterprise.
6. Competition and Market Size
What is the size of the industry and presence of existing and upcoming players will always define the valuation of the company. Always be ready with your distinguishing factors to convince the investors that the business can service in the eco system.
Understanding this factors will help you understand valuation of you your business and also to decide on timing of raising the equity.
Rohan Mehta – rohanmehta_rma@yahoo.in
Disclaimer: The information is of a general nature and is not intended to address specific facts and circumstances. The author of this article shall not be liable in any manner whatsoever for any action taken relying on information contained here. Readers must seek independent advice and not act upon information contained here.
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