How Angel Investors Value Pre-Revenue Startups (Part I)
Scorecard Valuation Method
It’s always an interesting discussion when valuing early-stage startups without existing revenue. Fundamentally, valuing a startup is very different than valuing an established company. Quantitative analysis and financial projections don’t always predict the future success of the early stage startup which is why some angel investors put greater value in the entrepreneur and management team. There is no one way to determine the pre-money valuation (the startup’s value before receiving outside investment) for a startup so it’s wise to gain insights on valuation methodologies from other entrepreneurs and angel investors.
In a series of three posts, I’ll be sharing three pre-money valuation methods often used by angel investors. Below, I’ll take you through the first installment of determining pre-money valuations with the Scorecard Valuation Method.
Scorecard Valuation Method
The Scorecard Valuation, also known as the Bill Payne valuation method, is one of the most preferred methodologies used by angels. This method compares the startup (raising angel investment) to other funded startups modifying the average valuation based on factors such as region, market, and stage.
The first step is to determine the average pre-money valuation for pre-revenue startups. Angel groups tend to examine pre-money valuations across regions as a good baseline. For instance, Bill Payne published a Scorecard Valuation Methodology Worksheet where he surveyed 13 angel groups in 2010, displaying a pre-money valuation range between $1M-$2M. Competition in different regions can vary sometimes leaning to higher valuations so the data could be skewed at the upper range of the data set. The value that appeared most often in Payne’s set of data was $1.5M which he uses as the average pre-money valuation.
I recommend AngelList as a great resource to explore startup valuation data from thousands of startups. You can browse valuations by location, market, quarter, and founder background.
The next step is to compare the startup to the perception of other startups within the same region using factors such as:
- The strength of the Management Team (0–30%)
- Size of the Opportunity (0–25%)
- Product/Technology (0–15%)
- Competitive Environment (0–10%)
- Marketing/Sales Channels/Partnerships (0–10%)
- Need for Additional Investment (0–5%)
- Other (0–5%)
The ranking of these factors is highly subjective, but the main emphasis besides scalability is on the team. Payne states:
“In building a business, the quality of the team is paramount to success. A great team will fix early product flaws, but the reverse is not true.”
Lastly, it’s time to calculate the percentage weights. Below is a table that Payne uses in his worksheet:
Payne assumes the team is strong (125% comparison) with a huge market opportunity (150% comparison). However, the startup is playing in a highly competitive environment (75%). By multiplying the summed factor (1.0750) by the average pre-money valuation ($1.5M) we arrive with a pre-money valuation of roughly $1.6M for the target startup.
The Scorecard Valuation Method is certainly subjective, but given the risk undertaken by angel investors, this approach makes sense for investing in early-stage startups. I particularly appreciate this method due to the special importance on the team. Understanding this method is also important for founders to know how to negotiate valuations with investors.
Other Recommended Valuation Methods:
- Part II: Venture Capital Method
- Part III: Berkus Method
