The startup valuation method is a standard DCF with an individual adjustment of the beta coefficient that is applicable to the startup.

1. Startup Valuation
Introduction
Michael Herlache MBA
Doctorate of Business Administration Candidate 2020
Startup Valuation
Introduction

2. Index
I. Introduction
II. Business as Science
Startup Valuation
Introduction

3. I. Startup Valuation
The startup valuation method is a standard DCF with an individual
adjustment of the beta coefficient that is applicable to the startup.
Startup Valuation
Introduction

4. I. Startup Valuation Continued
So we ultimately want to build a financial statement model (with 10 to
15 years projection period) and then a DCF on top of it.
The adjusted beta is put into the CAPM (Capital Asset Pricing Model) to
get to cost of equity (rE). The cost of equity (rE) is the IRR of the startup
required by the investor. Since startups are completely financed with
equity, the cost of equity is the cost of capital.
Startup Valuation
Introduction

5. I. Startup Valuation Continued
Risk free rate is government bonds and treasuries (ex. 4.1%)
Market risk premium (ex. 5.5%)
Company tax rate (ex. 35%)
Required IRR by startup investors (Angel, Micro VC, VC) is 39.5% (Achleitner
2004). Backing into the beta coefficient implied by this cost of equity yields a
beta of 6.4. For startups with a lower business risk, this 6.4 number can be
adjusted lower. A premium or discount to the beta coefficient is determined
by the risk profile as determined by the financial statement model and
management team.
Startup Valuation
Introduction

6. II. VC Perspective on Valuation
The NPV is calculated at a 39.5% IRR (implied beta of 6.4) and is the
incremental wealth increase at t=0 by taking on an opportunity. The
goal is to buy as much of this NPV (% of the company) for as little
capital as possible
Ex. 50M NPV at 25% for $2M investment gets you $12.5M worth of
NPV (i.e. increase in wealth at t=0 by taking on the investment). We can
then calculate the ROI or multiple on cash with an entry of $2M and an
exit for $12.5M which is a 6.25x multiple on cash. This is the VCs
perspective
Startup Valuation
Introduction

7. II. VC Work
1. Build financial statement model
2. Determine adjusted beta (starting from 6.4 rule)
3. Determine investment value with exit
4. Compare against strategic alternatives
Startup Valuation
Introduction

8. II. Entrepreneur Perspective on Valuation
Founders can ask what beta the VC is using to calculate the cost of
equity (rE) and how they calculated this. You can use the 6.4 beta rule
as a starting point for negotiations and adjust upward or downward
from there. This allows for an objective negotiation.
Startup Valuation
Introduction