The valuation myths founders are told about selling

Often founders misunderstand the concept of valuation, especially at the early stage. A friend was offered $50k for his startup, 10x based on the annual profit. But the product has a great community and a huge list of active users with the growth potential to double down in near future.

The valuation of his startup can be a lot more than this based on various other factors. (Anyway, he didn’t sell and is still working to grow it.)

What founders are told is that they will get 2x - 10x or so x on the annual earning. If the value of your business is defined only on the basis of annual revenue, then why would startups running in loss get acquired for millions.

In reality, it's just a matter of fact that a certain percentage of valuation is in the terms of how much money it had made and the rest goes to the future growth.

Valuation isn't on the basis 2x - 10x - 30x of what a company is making today but on the set of how it's doing and the potential future growth.

Whether you got an offer or you are thinking about selling it in the future. Considering you get the right amount for it is important over time. I'll share everything I considered when I sold Beyond Execute & the factors that determine the valuation of your startup, product, or side projects (at early-stage).

No doubt it plays an important role but there are several tangible and intangible factors that help you calculate the right valuation. For early-stage startups or products, there is no precise way to calculate how much to ask when you want to make an exit. But all you can do is mix-match multiple methods and figure out a subjective number.

Pay attention to elements that influence the valuation

As early-stage startups heavily invest in people, product, team, marketing, infrastructure, etc. it is more suitable for them to calculate valuation based on the future expectations of annual revenue rather than current profit, which is non-existent at this stage.

Whatever is your reason to sell your business - may it be a great opportunity or someone offered you a good amount or things aren't going well but you know someone can takeover or you aren't sure what to do next - knowing the right value will help you get a better amount and investment.

1. See the growth, how quickly you launched and got users, and the retention in the future. Showing that your business has grown on a small budget is great. You spend less money to acquire more users.
2. Is it something hot in the market and there is a huge potential for it to grow faster? See what the future holds: crypto? Web3? creator economy? or anything else. Will it be able to thrive in the future and it is the next big thing?
3. The community and social proof. Remember we are in Web3. VC and angel investors are heavily investing in community-based products and creators.
4. The capability of the founding team. They do play a role but aren't much influenced. It’s hard to judge a team if they don't have any prior experience. Yet they can be capable of lot in the future.
5. Competition in the industry - The simplest way to find your valuation is by finding a comparable business and analyzing its valuation. Check out the size, launch time, churn rate, growth over the period, profits, etc.

Growth driven valuation

Suppose your business isn't making much profit but it has grown 200% in the last few months. Would you sell it for 2x or so of the annual revenue? Obviously not, you know how much profitability and potential your startup has in the future. You know how many users are signing up daily and you know it's going to be a buzz in the market.

Let's say you have a social media app that has 10k+ monthly active users within 6-7 months of launch but it's not making any profit, your focus will be on to get as much as users in the beginning than think about revenue. Yet it's something that has potential in future to make. The market is huge and it's growth will let off people from using other's app. People will want to invest in it anyway (without profit). They believe it will give them 10x - 30x or more in few years. So, the valuation of this startup is incredibly subjective, relying on both tangible and intangible things.

Tangible metrics such as revenue, profits, and customers. Intangible metrics such as past performance, customers, retention, team, potential, and growth.

There are two things you'll do: show the worth of your startup and give a plan on how to grow within the next 2-5 years (to the acquirer). So that the value you got can return back to the buyer after a few years.

Competition

If you're still not sure from where to start, look at other acquired businesses in the same market. To begin with, you can see how and when the other startup got acquired, and why. Often this will lead you to compare the growth and future opportunities. Set assumptions based on the startup two steps ahead of yours and calculate your valuation.

🚫 Common mistakes

1. Never consider a valuation permanent. The business is always evolving and growing. What you think is the best today might increase after a few months or decrease. Ultimately, you must remember the elements that determine the factor of valuation.
2. Never rely on a single element such as annual revenue. The valuation is hardly straightforward. Maybe look at how other companies are performing in the same market, what is their valuation or marketing tactics, etc. It's also best to discuss in detail with the potential acquirers.