If you’ve spent any time working with or reading about companies going through venture rounds or IPOs you’ve probably come across the concept of pre- vs. post-money valuation. It’s important to distinguish between the two and here’s a quick guide to help you with that.
Pre-money valuation is the value of a company immediately prior to a financing round (Series A/B/C, etc. or an IPO, for example). Post-money valuation is the value of a company immediately following the financing round. Typically, the difference between pre- vs. post- will be the amount of money raised in the round.
Simple Pre vs. Post Equation
Use the simple equation below to understand the difference between pre-money and post-money.
Pre-Money Valuation + Financing Proceeds = Post-Money Valuation
You can also rearrange the formula to isolate each of the different terms:
Pre-$ Valuation = Post-$ Valuation – Financing Proceeds
Post-$ Valuation = Pre-$ Valuation + Financing Proceeds
Ownership Percentage
You’ve probably also seen people talk about ownership stakes in a company. You can use this info to help determine the post-money valuation of a company if you know the amount invested and the ownership percentage. Check out the formula below:
- Post-$ Valuation = Financing Proceeds / Post-Financing Ownership Percentage
This tells us that you that if you, for example, invest $100k in a company in exchange for 10% ownership, then the post-money valuation of the company is $1M (= $100k / 10% ).
Pre vs. Post-Money Example
Let’s walk through an example to understand this better.
You drop out of college to start an on-demand donkey petting zoo – the Uber for petting zoos. Your parents disown you and your friends laugh at you while they do their banking internships.
Initial Capital Invested
When you first form the company the business has basically no value. This will be a pre-money value of $0. But you need to buy your first donkey, so you contribute $10k that you got from some WallStreetBets play. Immediately after your equity contribution the business now has a post-money valuation of $10k.
- Pre-Money Valuation ($0) + Financing Proceeds ($10,000) = Post-Money Valuation ($10,000)
First Outside Investment
Your idea is gaining traction and you think this thing has real potential. With strength on the finance and business side of things, you realize you need to bring in a dedicated stable hand to care for your donkeys. Your homie Jack from back at school cared for the frat’s dog (relevant experience), so you decide to bring him on. As part of this, Jack invests $100k for 10% of the company. This brings your post-money valuation to $1M and implies a $900k pre-money valuation.
- Post-Money Valuation ($1M) = Financing Proceeds ($100k) / Post-Financing Ownership Percentage (10%)
Notice that Jack bought in at a $900k pre-money valuation, not the $10k post-money valuation from your first investment. What happened? All of your work building out the business and proving the model had value. This value is recognized in the new valuation assumed by Jack with his most recent investment.
The Big Funding Round
You and Jack spend some more time building your donkey booking app and scrape together a minimum viable product. You got some early success, so now it’s time to scale. This means aggressive donkey acquisition, clearly an expensive endeavor. You need to raise more capital.
Turns out Masayoshi Son at Softbank has been tracking your progress. He professes on-demand donkey petting the next ‘it’ industry and wants to be a part of your stratospheric growth.
Softbank invests $100 million in the company in exchange for 10% of the company post-financing. Your post-money valuation is now $1B. Congratulations, your Uber for donkey petting has reached unicorn status.
- Post-Money Valuation ($1B) = Financing Proceeds ($100M) / Post-Financing Ownership Percentage (10%)
Pre vs. Post: Now that we know the post-money valuation, the pre-money valuation is $900M:
- Pre-Money Valuation ($900M) = Post-Money Valuation ($1B) – Financing Proceeds ($100M)
Final Pre vs. Post-Money Scenarios
Two final scenarios to go over. The post-money valuation of the prior round won’t usually be the same as the pre-money valuation of the next round. One scenario where this may be the case is if a company doesn’t grow or progress between rounds. In this case, the company may not be able to attract investors at a higher valuation.
The final scenario is the dreaded ‘down round’. This is a situation where the company has suffered a setback. Because of the setback, investors require a lower valuation for the current founding round than the prior round. For example, maybe a biotech company had mediocre trial results and a once promising compound is no longer a sure bet. In this case the pre-money valuation of the current round may actually be lower than the post-money valuation of the prior round.
Lifecycle
To round things out, here’s a quick look at a company’s growth from Seed round through IPO.
Note that the post-money valuation equals pre-money plus that round’s invested capital. The pre-money for each round equals the prior round’s post-money plus that period’s post-funding growth. Absent any down rounds, this is a standard progression of a company’s pre vs. post-money valuation as it scales.