How to value a tech startup, part II

In the first instalment of this two-part look at tech startups (Business News May 31), I discussed a hypothetical investment of $50,000 for 10 per cent, valuing the company at $500,000 pre-money.

How do you know if the startup is worth half a million, or a few million, or nothing? Many would-be investors would have no experience on how to value a startup.

It is not like valuing a normal trading business. There are few, if any, physical assets, and no trading history or income to speak of, so you can’t just do some multiple of earnings.

We are talking about scalable tech businesses that could zoom to the heavens or be snuffed out in a few months and be worthless, or somewhere in between.

Valuations in Perth mainly fall into three categories. No doubt they would be larger in Sydney, Singapore or Silicon Valley. However, here in Perth, this is what is customary.

• Idea: $500,000 maximum

If the startup is no more than an idea and a slide deck, then the upper end would be $500,000, often much less.

If the company wanted $100,000 to build a prototype, then it would have to offer 20 per cent. Many startups can get to minimum viable product on less than $20,000 if they are frugal and clever. Hence, there are not many angel investor deals done at this very early stage. It tends to be family and friends. People who believe in the founder(s) and are willing to take a punt.

• Working prototype: $500,000 to $1 million

If the startup has a working prototype, but are still pre-revenue or at very low revenues, then it could be valued in the $500,000 to $1 million range. The risk is less for the investor, as the company has a product, some users and clients, and some traction. But it’s not yet a viable business.

If the founders wanted $200,000 for growth-sales and scaling, then they’d sell off 20 per cent on a $1 million valuation. This would be a typical ‘seed angel’ round with several high-net-worth investors chipping in.

This is still too early for most venture capital companies. So, it requires lots of pitch meetings and individual networking to pull such a round together. One Perth tech company I worked with had 129 such meetings and received 129 knockbacks before landing such an investment. Lots of coffee meetings.

• Scaling up, big growth: $1 million+, $2 million++

The tech company’s product or service is out in the market, has multiple and growing clients and revenues. In this case, the business could be worth north of $1million, perhaps several million.

Here, investor discussions are more around known metrics such as the cost of client acquisition, average revenue per user, lifetime value of client, total addressable market, competitive landscape and such.

The startup is becoming a scale-up and is in need of more rocket fuel to power the next stage of growth. They could be talking with VCs and possibly embarking on a ‘Series A’ round, which would be an investment of several million dollars.

Obviously, these valuation ranges are basic estimates, but in my experience, it’s as good a starting point as any.

Some would be able to raise $2 million on hardly any revenue, as WeMoney, led by founder and CEO Dan Jovevski, did last year during a pandemic. But this is rare in Perth.

If a WA-based early-stage tech startup with an idea, a slide deck and perhaps an MVP thought they were worth $4 million or more than $5 million, then you may have to tell them they’re dreaming.

• It’s more than money

Money is only one thing a scalable startup needs. It also need wisdom, advice and a helping hand to open doors. This is what the investor brings; and the right ones bring it in spades. It is these startups, backed by sufficient capital and superb advisers, that have the best chance of doing something great.

• Charlie Gunningham is founder and principal of digital strategy advisory business Damburst