Venture capital method

CFA Level II Alternative Investments
#1

Hi all,

I am really sorry if the question I am going to ask is a very silly one but why exactly does pre money valuation differ from post money valuation?? Also, if financing can change the valuation of a company, would this be the case for any company in general (including mature ones) ??

Thanks in advance

#2

I am not sure I understand the question. What I can say is, the value of the business pre-investment from a venture capitalist does not incorporate the investment, which will affect (positively usually) the post-valuation (ie. Exit value divided by (1+ required return)).

Financing impacts the valuation of any business. Please refer to the reading on Capital Structure in the CF book.

#3

I am not referring to capital structure, I am only talking about the valuation part (equity valuation to be more specific)… Regarding financing impacting the valuation of a business, I agree with it to some extent but I would also like to mention that more than financing, it is the expected earnings and cash flows that determine the valuation of a business… If financing leads to improved earnings/cash flows, I totally agree with the statement… However, let me suppose that i am angel investor considering investing in a start up and I have discussions with its founders… After the discussions, if I happen to believe that the company would not really do well after financing, would I still add the financing amount to the pre money valuation for the post money valuation?? After all, valuation is subject to the returns one would expect, right??

Kindly note that it is just a hypothetical example that I have quoted here and let’s assume that I still invest in the start up after the discussions… I just want to get this doubt on financing cleared…

#4

I wrote an article on the venture capital method that may be of some help here: http://financialexamhelp123.com/venture-capital-method-funding/

#5

@S2000magician, kudos to you for a terrific article on understanding the PV and IRR method of VC valuation… However, that’s the next part of it… my only query as I mentioned earlier is regarding why a round of funding increases the valuation of a firm… I am still not clear on this…

#6

The venture capital is equity, so when they contribute $5,000,000, the value of the company increases by $5,000,000.

It’s really that straightforward.