Hello!

You are at your family’s annual family gathering. Your sister brought “Alan”, another strange guy in her history of strange guys. Before dinner, you blather on about a great business idea you’ve been pursuing. Blah blah blah… you’re quite the little chatterbox!

After, as the turkey and potatoes start dulling your mental reflexes… Alan approaches you with a check book and says “I like it. I just came into a little money from selling my company. What size stake would I be able to get?” You just stare at him like a deer in the headlights. Alan’s an Angel Investor, and you are about to miss a great opportunity.

If you were put on the spot for financing for your idea, how would you answer?

A little bit of stumbling might be understandable if you got asked out of the blue through pure serendipity. But what if you went to an investor forum and you didn’t know about pre-money valuation and share price? You don’t think this ever happens?

MJ was discussing his experience at the Y Combinator Demo Days and compared it to his experience at the Angel Forum…

Here is the part that is so frustrating as an investor:

Everyone is asking for money and I am asking, how much money do you want? For how much of the company? And no one can answer that question. In fact not one person answered that question.

Perhaps they didn’t know, or perhaps they have been coached to not set a valuation too early as MJ suggests. The idea being you don’t want to sell yourself short and undervalue yourself. But the reality is that…

When you are a startup, the way that you are valuing your company, it is not like it is anything real, it is completely made up. I don’t know why anyone doesn’t say that out loud, but it just is.

It is is about how much money you need to get to next definitive risk reduction point.

Your pre-money valuation then can be easily determined based on what you need. Investors aren’t going to invest for less than 20% and no one should probably be investing more that 40%. This gives you a clear range to to set your pre-money valuation.

So what does this mean to you? If you need money from investors, you need to have your ducks in a row.

Start with answers to the following questions

• What is the next definitive risk reduction point?
• How much money will it take to get there?
• How much of the business are you willing to give up? (20%-40%)

No idea how to answer these questions? Head on over to the Cambrian House Forums to ask the Cambrian House community.

This entry was posted on Friday, April 11th, 2008 at 9:48 am and is filed under Startups / Entrepreneurship. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.