Startup founders are like chefs in a kitchen—they all want to cook up success, aiming for long-term growth, whether through an IPO or a tasty acquisition. To get there, many whip up external funding.
Understanding "pre-money vs post-money" is crucial when dealing with venture capital (VC). With VC funding on the rise by 15% annually, mastering these terms is crucial to nailing negotiations.
Key Takeaways:
Pre-money valuation is a company's worth before any new investment enters.
Post-money valuation reflects a company’s value after receiving external investment funds.
Investors prefer pre-money valuations for clarity before new funding is introduced.
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What is Pre-money Valuation?
Ever wondered how investors decide the worth of a company before they even invest a dime?
That's where pre-money valuation comes in.
Imagine you’re buying a pizza. You’d want to know how big it is before deciding how many friends to share it with, right? Pre-money valuation is a bit like that—it’s the estimated value of a company before any new investment (or dough) is added.
Let’s say you’re an investor looking to buy a slice of the company. The pre-money valuation helps you figure out how much each slice (or share) costs. Think of it like a price tag on a slice of that pizza.
If the company is valued at $7.5 million and there are five million slices (shares) available, each slice would cost you $1.50. Simple math, right?
But what happens after you’ve invested your money? The total value of the pizza (company) grows. This new value, after your investment, is called the post-money valuation. So if you throw in $2.5 million, that pizza is now worth $10 million. You’d own a quarter of that pizza, which sounds pretty satisfying.
The calculation might seem a bit dry, but it’s crucial. Pre-money valuation is calculated before investment, using fully diluted capitalization. You take the pre-money valuation and divide it by the number of fully diluted shares. This number gives investors a clear picture of what they’re getting into.
It’s all about knowing the worth of something before you add your share. Understanding pre-money valuation is key to making smart investment choices.
Remember, it’s not just about numbers—it’s about making informed decisions that could lead to a bigger and better pizza.
To learn more about making the most out of your pre-seed funding round, check out this resource: How to Make the Most Out of Your Pre-Seed Funding Round.
What is Post-money Valuation?
Picture your company as a growing tree. It starts as a small sapling (pre-money valuation), but after some nurturing—like an investor’s cash infusion—it becomes a full-grown tree (post-money valuation). That transformation is key to understanding post-money valuation.
Post-money valuation comes into play when a company raises funds through preferred stock. Let’s say a company is worth $7.5 million before getting any new investment. After investors put in $2.5 million, the company’s value jumps to $10 million. That $10 million is the post-money valuation.
But there’s more to the story. Post-money valuation considers new investments and discounted cash flow. Some companies also have convertible securities like SAFEs (Simple Agreements for Future Equity) or convertible notes. These convert into shares during the financing round.
Imagine there’s an extra $1 million in these convertibles. The functional pre-money valuation then drops to $6.5 million, changing the share price. Instead of each share being worth $1.50, it’s now $1.30.
Read here more about Pre-Money vs Post-Money Valuation: Definitions & AI Tool
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