‘The intention of potential buyers may be different, yet the valuation of a start-up remains a challenge for all,’ says De Goeij. ‘The lack of historical data and substantial revenues, combined with significant operational losses in the early years and uncertain future prospects, mean that the valuation of a start-up often requires a tailor-made approach, or possibly a combination of approaches. Sellers quite often tend to be more optimistic about future earnings than potential buyers.’
Smaller investments, but higher risk for venture capitalists
‘Venture capitalists approach investing in start-ups with a mindset that is generally different from that of corporates’, says De Goeij. ‘They typically invest early in the lifecycle of a company, investing smaller amounts but accepting the higher risk profile of start-ups in that early stage. For these investors, the anticipated investment horizon and expected returns are usually already envisaged when making the initial investment.’
Six valuation methods
All in all, valuation of a start-up may be tricky and subjective. To eliminate uncertainty and subjectivity from the valuation as much as possible, PwC uses six different valuation methods. The most commonly used is the discounted cash flow method; especially for start-ups that have achieved certain milestones in product development and that are nearing the commercialisation phase. ‘With this method, the value is determined from the expected future cash flows. Given the generally uncertain future of start-ups, it is necessary to challenge key assumptions and perform benchmarking analysis where possible. Key value drivers to challenge would include market size, market share, sales prices, operational costs and capital expenditure.’
Valuation is not an exact science
Valuation is not an exact science, says De Goeij. ‘That is why we corroborate the primary valuation method with at least one other approach, for example the market or multiples method. This is a simplified way to determine the value of companies by comparing to the value of industry peers, to the extent that data is available. The benefit of this method is that objective market data can be used, which makes it less dependent on potentially subjective future expectations of management. Other valuation methods are the license method, the net asset value method or a benchmark of recent financing rounds.’
To be or not to be independent
Irrespective of how the valuation is determined, the next step in the company’s lifecycle is fundamental for a start-up. According to De Goeij, there are broadly two scenarios: ‘The first is to be fully or partially acquired by a corporate. This means giving up (part of) your independence in exchange for access to the corporate's knowledge, production facilities, sales channels and distribution networks. Alternatively, option two may be to partner with a venture capitalist or private equity firm. This means retaining independence, potentially gaining access to a prestigious advisory board, collaboration with other companies in the firm’s portfolio and possibly still a financial stake in the company. In this scenario, there is usually an intended exit date and, when holding a stake in the company, the potential of attractive returns through a future sale or IPO.’
Want to know more about our valuation methods?
Contact us
