How to Value a Startup Part 2: Start With What You Have

Valuing a startup is not an impossible task. It just takes work, and we believe that it is best achieved through a “collage” of valuations. Each valuation might, on its own, be inadequate to give the true value of the startup, but when taken together can offer the clearest picture possible of what the startup is worth.

In this week’s post on the topic, we’ll look at the first “picture” in the valuation collage. We’ll start by measuring what the business has. We can do this by adding up all of the assets owned by the business, and the adding up all of the liabilities “owed” by the business, and then subtracting the two numbers.

Assets include all the things owned by the business for the purpose of doing business: Property, raw materials, inventory, equipment, and cash. If everything was sold and converted to cash, how much would you have?

Liabilities include all the things that the company owes: Debt and loans, taxes, and payables. If all the bill collectors showed up at once and demanded every cent owed to them, how much would it be?

Now you’ve got two numbers. Subtract them and voila, you’ve got yourself your very first valuation.

Note: Although many angels are investing in companies that are pre-revenue-generating, if the company is producing revenue from some early-stage customers, you’ll also want to include accounts receivables as an asset, NOT a liability, because these are (theoretically) able to turn into cash when collected. If you are looking at a list of assets that include accounts receivables, remember that those are only theoretical assets which the government, accountants, and debt collectors consider cash, but which most of us consider slightly less valuable than cash. For example, if most of the receivables are at 90 days, there is a far less likelihood of turning that into revenue than if the receivables are at 30 days.

Some best practices to keep in mind: Make sure that everyone participating in the valuation agrees to a certain set of ground rules when determining the numbers. For example the assets should be listed at a dollar figure equivalent to what they are worth today (original cost less depreciation) rather than what they were worth when they were purchased. And if you want to be REALLY realistic, don’t assume that you will get top dollar for that gently used desk and matching chair set. If you have to sell it, it might go on Craigslist before it goes back to Chic Office Furniture Emporium.

At the end of the day, you’re not factoring in what the company could be worth if it earned regular revenue or if its patents were sold for millions to Google or if it gained the almost-overnight popularity of Twitter. You’re just looking at what the company has right now.

That’s certainly not an end point, but it’s a good place to start. Stay tuned for next week’s article on this series.