# Taking the Valuation Curve Seriously

Recently I was contacted by a founder who wanted me to invest in her startup. When she told me the status of her company and the valuation she was seeking, I told her it wasn’t worth investigating. She was looking for a \$10 million valuation on a pre-revenue company.

That’s absurd. The biggest Unicorn around, Uber, raised money at a \$4M valuation in its seed round.

The exchange got me thinking. I should write a column that offers a rough guide to the relationship between valuation and traction for early stage companies.

### Try This Startup Valuation Method

This effort is very crude. It is only based on deals I have seriously considered and it doesn’t control for the variation in industry, size of market, capital requirements, team experience and so on. But here goes:

In 2016 I looked at 120 companies on which I had data on both the founders’ expected valuations and their annual revenues at the time I made my investment decision. (As an aside, I received 340 pitch decks in 2016 and only thought that 120 companies fit my investment criteria enough to bother to ask for these two pieces of data.)

The valuations of the companies ranged from \$750,000 to \$17.5 million. Annual revenues ranged from zero to \$2 million. The median company had \$24,000 in annual revenue, and a valuation or valuation cap of \$3.5 million. The most interesting part of this data dive comes from looking at the relationship between the companies’ revenue traction and their valuations. In the figure below I have plotted the valuation or valuation cap of the company on the vertical axis and the annual level of sales on the horizontal axis.

The median valuation or valuation cap for a pre-revenue company that I took seriously in the past year was \$1.8 million. For companies that had about \$15,000 per month in revenue, that valuation was around \$2 million. When the companies had hit about \$30,000 per month in revenue, the valuation was about \$2.5 million. The \$3 million valuation is hit when the companies were a little over \$50,000 per month revenue. A \$4 million valuation occurs at around \$80,000 a month in revenue. At a little over \$100,000 per month in revenue, the valuations hit \$5 million, and they reach \$6 million at \$125,000 per month in revenue.

There are a lot of caveats in using this information. First, I am a single investor and I am more valuation conscious than many angels. Second, these numbers are medians. Founders with more experience, those in hot industries, and those with a lot of investor interest command higher valuations than others. But even if you consider those caveats, you can see that proposing a valuation or valuation cap of \$10M on a pre-revenue company isn’t going to get this investor to consider investing.

Growth Photo via Shutterstock

Scott Shane is A. Malachi Mixon III, Professor of Entrepreneurial Studies at Case Western Reserve University. He is the author of nine books, including Fool's Gold: The Truth Behind Angel Investing in America ; Illusions of Entrepreneurship: and The Costly Myths that Entrepreneurs, Investors, and Policy Makers Live By.

One Reaction
1. I guess it all begins with the fact that most startups don’t know about this valuation standard. Your experience allows you to know that their goal is way too high.