The valuation of early-stage investments in NZ

nzvca.co.nz

Valuing these early stage companies is challenging given their highly uncertain nature and can definitely be viewed as an art rather than a science. Unsubstantiated revenue and profit prospects and the tendency for parties on either side of the transaction to have good reason to argue the number up or down according to their viewpoint ensures that this will inevitably be the case.

Consider a firm that has a unique business concept, significant growth opportunities, and no real positive cash flow to show the profit potential of the venture. Valuing such high growth, high-uncertainty firms is a major challenge faced by angel and venture capital investors around the world.

Valuing a company too low means possible over-dilution of the founder’s ownership stake, or even, if investors and the founder don’t agree on pricing, lead to the company not being financed at all. Raising money at too high a valuation may mean that investors do not have an ownership interest that properly reflects the investment risks that they are taking. It also increases the risks of subsequent “down rounds”, and will definitely have a negative impact on the investment returns that investors ultimately achieve. Again, it may also lead to the company not being financed at all if the entrepreneur is not willing to accept a lower valuation than they would like.

The dataset shows that the median, seed, start-up, and early expansion pre-money valuations were $1.08m, $2.4m and $7.45m respectively. There is, however, substantial variance across industry sectors. The Software and Services industry sector has the lowest median pre-money valuation at seed stage, at $500,000; rising to $1.85 million median pre-money valuation at start-up stage. The Biotech, Capital Goods, and Energy sectors have median pre-money valuations of $2.5m Seed, $3.9m Start-up and $10.7m early expansion. Stripping out the distorting effect of these sectors from the data has a substantial effect on the median pre-money valuations on the balance of the dataset.

  • We do not have an accurate picture as yet of the relationships between initial early-stage company valuations and the investment returns ultimately being achieved by investors on exit.
  • The amount of time it takes for investors to realise returns from an investment is of critical importance to the calculation of their final investment return – and this is particularly so for angel and venture type investment.
  • Generally, investee companies are raising funding frequently and in small amounts. This suggests a drip-fed funding approach to see companies past milestones but which leaves many underfunded.
  • A portfolio approach to early stage investing is crucial in order to maximise the chances of generating appropriate investment returns but we are only just beginning to see increased uptake of this approach in the New Zealand market.

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