How ‘pre-money’ & ‘post-money’ valuations work
One of the first ‘confusion’ obstacles we had to overcome as angel investors was understanding valuations and topics like the difference between pre-money and post-money valuations. In basic terms, it really is simple:
The post-money valuation = pre-money valuation + amount of money being raised.
Yes that’s it. Simple.
So let’s use an example…
New hot-tech startup Honkytonk.io is raising £1m at a pre-money valuation of £10m. Their post money-valuation is now £11m.
Wait.. so which is right? £10m or £11m?
Both are. The company was worth £10m. The company issues £1m of new shares, so there are now £11m worth of shares in the company and that is the company’s post-money valuation.
Sadly that probably opens up a host of additional questions you have have… We will try and do a Q&A below but most will probably need to spend time writing separate posts on each topic…
What happened to the original shareholder, when it was £10m?
With nothing else taken into consideration they would have got diluted which is already a separate post.
Or they could have taken up their ‘preemption’ rights (if they had them) in this new fundraise and bought enough shares to maintain their ‘pro-rata’ % ownership of the company.
Obviously, they could also have chosen to invest more on top, as part of the £1m raise and increased their % ownership of the company
When there is a fundraise, does the startup always issue new shares?
Well if the fundraise is to fuel the growth of the company, yes. Everyone agrees to dilute their ownership to raise growth funds for the startup, with the hope that there is a large enough valuation increase that at a minimum their stake keeps the same value. i.e. the share price stays the same
Do they always have to issue new shares to fuel the growth?
No. They could borrow, i.e. do a ‘debt’ raise but this is unlikely if they are not of a certain size, profitable or at least generating meaningful revenue (to borrow against).
How come you didn’t mention secondary share sales in your last answer?
Secondary sales are when existing shareholders sell their shares, rather than the company. The money goes to the shareholder not the company, hence isn’t used for growth.
So when do secondary share sales happen?
A new investor might want to get a certain % ownership of the startup (as per the fund rules) and the startup may not want to dilute that much and some original shareholder might want to get some cash back. In this scenario their could be a share issuance with secondary shares too.
There could also be the scenario where original shareholders just want to realise gains (or even get out of a sinking ship) and sell their shares to someone else but please note this usually required board approval.
Ok, I think I got it.. but when there is a press release and it states the size of the raise, what numbers is it really referring too?
Great question. The answer is that it depends!
The raise amount at the lower levels are generally the size of the actual raise (value of the new shares issued).
For larger raises it also includes the amount of secondary shares sold. A cynic would say to make the £s in the press release look bigger. i.e. A £25m raise could be £20m new share issuance and £5m of secondary shares sold.
We’re not saying we are cynics but likewise, on the large side, it could also include the amount of debt taken on too…
How about when the press release states the valuation, what numbers is it really referring too?
The valuation stated is always the post-money valuation. However as explained above, due to dilution, even though their could have been a (post-money) valuation increase, the round could have actually been a ‘flat-round’ or even valuation decrease for existing shareholders.
Note: Image generated using DeepAI with the text “before and after valuations”
