Question

1. Consider that you hold securities in a company that has just accepted an investment of $10 million in 6x liquidation at $3 million pre-money. How would you value this company if you were the “new money”? The previous investors?

2. If a mezzanine investor has received warrant coverage for 5 percent of a $3 million loan where the equity investors are paying $2.50 per share, how many shares will she be able to buy and at what price?

3. Assume Max and Sam are negotiating their first round in SpecialStuff. Sam is sure that $3 million is all that will be needed, but Max believes it will take at least twice that. Max is willing to invest $3 million in this round of ownership somewhere between 25% and 40%. What do you think the final deal will look like and why?

Answer 1

Solution)
When a startup raises capital, valuation is main economic term that must be tackled. The two main ways valuation is expressed in venture capital financings are what’s known as the “pre-money valuation” and the “post-money valuation”.

The startup’s valuation immediately before the venture capital investment is called “pre-money valuation” while the startup’s valuation immediately after the venture capital financing is closed is called the “post-money valuation.”

Equation (1) below explains how to calculate the pre-money valuation. But sometimes a startup is not given the post-money valuation figure from an investor and therefore can’t make the easy pre-money valuation determination via Equation (1) below. Rather, the investor will tell the startup (a) how much they are investing and (b) what percentage they want — this is where Equation (2) below comes into play. Then after solving Equation (2) first, then the startup founders can solve Equation 1 and determine the pre-money valuation being offered.

Let’s walk through the formulas first:

Pre-money Valuation and Post-money Valuation Equations

(1) Pre-money Valuation = Post-money valuation – Venture Capital Investment

(2) Post-money Valuation = Venture Capital Investment/Venture Capital Fund Ownership Percentage
Using Equation 1
We can get the Post-money Valuation which is as
Pre-money Valuation = Post Money Valuation - Venture capital investment
$ 3 miilion = Post-money Valuation - $ 10 miillions
Post Money Valuation = $ 13 Millions