Funding New Ventures: Valuation Financing and Capitalization Tables
The key issue related to valuation is how many percent of a company does the given amount of money buy. Investors always hope for large percentage because the more percentage they have means that they will have greater control of the company.
For the venture capital investors, they seek for large percentage of returns that they will receive by risking and undertaking the new venture. This way, they can compensate themselves and make profits. Venture capital investors do not look at how much the firm is worth as they only care about how many percentage they will receive.
Valuation is classified into two types which are implied valuation and bottom-up valuation. An implied valuation is a method to find the value after the investment has been made. We can find this by dividing the amount of money invested by the percentage of shares in order to find the post-money. After that we take the post-money and minus by the new money to find the pre-money so we can know how much it worths before the investment. Bottom-up valuation on the other hand focuses more on the fundamental analysis of the business and its prospects. It is usually based on what the investors believe the company will be in the future which can be difficult to find because there are different assumptions and unknown events.
In addition, the simple approach of valuation suffers from few complications. Stock options is an example of a complication. Companies use stock options to create an option pool in order to compensate and reward their employees so they will have more incentives to work. By doing this, they are sharing some percentage of ownership to the employees which dilutes the previous shareholder who owns the shares before. Another example of complication is the investor preference. This complication makes it more difficult to find find out the real value and the investors also receive more percentage of the value than what...