A reader asks:

“My question is how do we value a company with no sales? I understand it’s an arbitrary valuation but is there anything we can possibly base it on? Is there a “default” valuation for companies in a seed round?”

We’ll answer this question with some questions (and answers) of our own:

  1. How much money do we need?
  2. How do we set a valuation from this budget?
  3. How do we express our valuation to investors?
  4. What’s the range for seed round valuations?
  5. How low do seed round valuations go?
  6. How much money can we raise in a seed round?
  7. How much dilution should we expect in a seed round?

1. How much money do we need?

First, figure out how much money you need to run at least two experiments*. Then tack on 3 more months of runway so you can raise another round before you run out of money. This is the minimum amount of money you should raise. For example, let’s say you need $100K.

* Your experiments should be constructed such that a positive result will let you raise more money at a higher valuation.

2. How do we set a valuation from this budget?

Now decide what percentage of the company you will sell for $100K. Pick a number between 10% and 20% of the company’s post-money. You can go below 10% but that probably means your valuation will be too high or you will raise too little money.

For example, let’s say you’re willing to sell up to 15% of the company—that’s your bottom line dilution. This implies a bottom line post-money valuation of $666K.

3. How do we express our valuation to investors?

Finally, tell investors that,

“First, we think we can make the company significantly more valuable if we raise $100K—that’s our minimum. Second, we’re willing to sell up to 10% of the company.”

10% is your aspirational dilution. It’s the lowest dilution you can justify. It’s the lowest dilution you can say with a straight face.

Notice that you didn’t explicitly state your valuation. Combining the dilution (10%) with the minimum amount you’re raising ($100K) implies a minimum post-money valuation of $1M. But the valuation is not explicit. This gives you room to raise your valuation if you raise more than $100K (and we suggest you raise as much money as possible).

4. What’s the range for seed round valuations?

If $25K buys 1% of company, your post-money is $2.5M—that’s on the high end.

If $25K buys 5% of company, your post-money is $0.5M—that’s on the low end.

5. How low do seed round valuations go?

Y Combinator has set new lows for seed round valuations. They get away with it because they also set new highs for helping seed stage companies.

According to the YC FAQ, they buy about 6% of a company for $15K-$20K. So the post-money valuation of their investments is $250K-$333K.

But don’t fixate on valuation. Low valuations aren’t bad if you keep the dilution down too. 6% dilution is very low if the company makes a lot of progress with $15K-$20K.

6. How much money can we raise in a seed round?

If you sell 20% of your company at a $2.5M post-money, you raise $500K. That’s about the maximum for a seed round. Beyond that is Series A country.

7. How much dilution should we expect in a seed round?

Take as much money as you can while keeping dilution between 15-30% (10%-20% of the dilution goes to investors and 5%-10% goes to the option pool).

Compare this to a Series A which might have 30%-55% dilution. (20%-40% of the dilution goes to investors and 10%-15% goes to the option pool.)

A seed round can pay for itself if the quality of your investors and progress brings your eventual Series A dilution down from 55% to 30% (for the same amount of Series A cash).

Don’t over-optimize your dilution. Raising money is often harder than you expect, especially for first-time entrepreneurs.

Smart investors don’t over-optimize dilution either. They want to buy enough points to own a good chunk of the company. But they want to leave the founders with enough points to keep them highly motivated to build a lot of value for the founders and investors alike.

Finally, if you’ve made it this far, please enjoy the following presentation:


Topics Budget · Dilution · Valuation

19 comments · Show

  • John S. Kim

    thank you for the great post. it feels good to be assured that we’re on the right track.

  • Daniel Ha

    Amazing, thank you so much for that.

    The article that came before the video was pretty good too.

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  • Dharmesh Shah

    Good stuff. The best discussion I’ve seen for seed-round valuations yet.

    One thing that you didn’t get in to yet is: the value of convertible notes to defer discussions on seed valuations.

  • Thomas

    Glad somebody finally called out the Y Combo guys. Their touchy-feely lab bamboozles ignorant engineering types into giving away a lot of value. Funny how all of these start-up engineering types like to work directly with VCs; they get taken to the slaughterhouse every time.

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  • Josh

    The Ewing Marion Kauffman Foundation has a great set of articles on this very topic that are worth checking out.

  • David

    The valuation information I’m still digesting. The video I’ve played 5 times in a row now. Thanks!

  • Randall

    Nice article, thanks! The presentation did a great job of expressing the idea in a little dance number.

    This could be useful for helping calculate a dollar figure:
    http://www.caycon.com/valuation.php

  • SCeo

    Great timely article. The convertible debt is something that seems very common and easy, but for many experienced angel investors, not an attractive option. I’ve gotten feedback from a few angels that said that even with the discount, it isn’t worth it and that they would rather invest in Series A.

    Another comment was that with a convertible, the company and the angels are at odds. The angels want a low Series A valuation, thus they get more equity, while the founders/company want a high Series A valuation, thus give away less to the angels/series A investors.

    How does one get around this? Any other interesting structures out there?

  • Sharel

    Hi Nivi,

    Can you please provide more details for: why in seed founding I shouldn’t sell more then 20% of the company. e.g., if we get the sum we need to reach a meaningful milestone, for 30% – and the valuation makes sense – why is that a problem?

    Thanks.

    • Nivi

      There’s no hard rule. Understand that you will have multiple rounds and dilution in each round. Understand that the founders will need enough equity to stay motivated after the Series C. Chris Dixon previously commented that he sold something like 50% of the business in the first round of SiteAdvisor and he was glad for it.

  • Jen

    Also, it would be great for you to discuss the different types of transactions. For example, someone mentioned convertible notes. I am allowing for exchangeable shares because my angels are coming in with the most risk. Why should they just get a discount in the next round? They should get a return right away.

    More entrepreneurs should think this way. It has only taken me 5 months to raise the $290K I needed because of the way I structured the deal. We gave 14.5% away to our angels.

  • Company Valuation

    Nice approach, thanks for the clear information. If you’d like help with company valuation, Armanino McKenna has a great deal of experience and is a good alternative to the Big 5.

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    What is the Pre Money Valuation for a startup web based company?…

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