What happens if a valuation is too high?

A high valuation might lead to short-term gain, but it can do damage to your startup in the long-term. A high valuation increases expectations for the next rounds and makes it rather hard to keep increasing the valuation — you leave no margin for error; something startups should always do. You’ll distance investors.

Why is a higher valuation bad?

At a higher valuation, you end up not having to sell much of your position to generate some significant cash. This can also massively derisk things at a personal level. But secondary liquidity at a valuation much less than $100m often ends up being a bad deal in the end.

What does higher valuation mean?

A stock that is expensively priced in comparison to stock in other companies in the same industry. Typically, when a stock is referred to as high-valuation, its price-earnings ratio (P/E ratio) is higher than other companies in its industry.

Why is valuation important for investors?

The higher the Valuation, the easier it is to borrow money, the higher the per-share price, and the higher the price in the case of an acquisition. Valuation is also important if you intend to take on investors. Higher Valuations = more money per share sold to investors.

Is a higher or lower valuation cap better?

From an investor’s perspective, higher valuations reflect more expensive investments since investors must pay more for the same level of ownership. By investing at a lower valuation, convertible debtholders receive equity ownership at a cheaper rate than the current valuation.

Why are tech valuations so high?

Young tech firms tend to have more expensive stocks so they prop up the average. Another reason for generally higher valuations is the effect of activist investors. Their pressure tends to drive up stock valuations, and that’s a relatively new phenomenon in the past twenty years or so.

Why would an entrepreneur want a lower valuation?

2) A lower valuation makes acquisitions easier, and in the case of an acquisition, lowers the hurdle price at which the founders make meaningful money. For example, if there’s a 2x participating preferred liquidation preference, then raising $10m at a $40m pre and selling for $65m means the founders split $36m.

What inflates a valuation?

As interest rates go down, present values go up, making valuations higher. A small change in the discount rate can result in large changes in valuation. Summed up simply, when paying higher interest rates, the investor requires a higher rate of return, which makes valuations go down, and vice versa.

Why does a valuation matter?

Valuation matters to entrepreneurs because it determines the share of the company they have to give away to an investor in exchange for money. At the early stage the value of the company is close to zero, but the valuation has to be a lot higher than that. Your pre-money valuation will be $ 1 million.

Why is valuation important to a business?

An accurate valuation of a closely held business is an essential tool for a business owner to assess both opportunities and opportunity costs as they plan for future growth and eventual transition. The entire valuation process can provide an overview of strengths and weaknesses of the reviewed company.

How does a valuation cap work in a SAFE?

Another term that can come with a SAFE is called a Valuation Cap. This is another way for the SAFE investor to get a better price per share than a later investor. If your company ends up raising money at a valuation above the “cap,” then the SAFE investor gets to convert at a share price equivalent to the cap.

What is the valuation cap on a SAFE note?

The Valuation Cap is the most important term of a convertible note or a SAFE. It entitles investors to equity priced at the lower of the valuation cap or the pre-money valuation in the subsequent financing. Typical Valuation Caps for early stage startups currently range from $2 million to $20 million.