How to Assess the Value of a New Business Venture
New business owners naturally value their startup ventures very highly, using optimistic predictions of expected revenue and profit margins over the early years of the business. These valuations will conflict with the investment offers from startup investors, who will take a more pessimistic attitude concerning the valuation of the business. The actual value of a business is determined by the percentage of equity sold and price for which it is sold; standard business valuation techniques can be used to determine estimate ranges for which investment offers are worth taking.
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Instructions
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Develop your business plan for the first three years of your business startup. This plan should include all capital outflows, anticipated revenues, and projections of profitability. See the Small Business Administration website (under Resources) for resources to help you write your plan.
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Calculate the baseline value of your company based on book value; see the references below for book value calculation instructions. The book value is the value of your company if all of its assets were sold at market rates; in other words, it is the liquidation value of your company, and does not include intangible assets, such as customer goodwill.
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Calculate the upper range of your company valuation using a multiple of earnings; see the references below for multiple of earnings calculation instructions. Earnings are typically calculated using EBIT: earnings before interest and taxes. If a company is not profitable, EBIT can be determined from cash flow. An arbitrary multiple is applied before valuation, based on the soundness of the business, the quality of the management team and estimation of the company's future profitability. Four to five times earnings is a standard estimate for established companies; unproven startups may have to use a lower multiple.
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Approach venture capital firms, startup investor funds, and angel investors with your business plan, and shop for investment offers. A Small Business Development Center can help you locate investment opportunities.
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Compare these offers with the range of estimates. An offer of $100,000 for 10% of the equity in a company values the company at $1,000,000; a seemingly larger offer of $250,000 for 33% equity values the company at only $750,000. Cash offers ultimately are the best real-world evaluation of the value of the company, but an entrepreneur may choose to forego an investment if he believes he can get a better deal at a later date.
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Tips & Warnings
Most startup companies do not have the luxury of waiting until an investment offer matches their best projections. If your company requires startup capital to get off the ground, compare investment offers with one another, not with your projections. A savvy entrepreneur avoids selling off too much of her company in its early stages by planning her business to require as little investment as possible.
