Pre-money valuation and post-money valuation are terms used to determine the value of a startup before and after a new investment round. These valuations are critical because they impact the ownership percentages of both founders and investors.
Pre-Money Valuation
Definition: The valuation of a startup before a new round of funding is added. It represents the company's current value based on factors like market potential, revenue, team strength, and intellectual property.
Formula: Pre-money valuation = Post-money valuation − Investment amount
Example: If a startup has a pre-money valuation of $5 million and receives a $1 million investment, this means investors believe the startup is worth $5 million as it stands without the new funds.
Post-Money Valuation
Definition: The valuation of a startup after a new round of funding has been added. It’s the combined value of the pre-money valuation plus the amount of the new investment.
Formula: Post-money valuation = Pre-money valuation + Investment amount
Example: If a startup has a pre-money valuation of $5 million and an investor adds $1 million, the post-money valuation would be $6 million.
How Pre-Money and Post-Money Valuations Affect Equity
When an investor puts money into a startup, they receive a certain percentage of ownership based on the post-money valuation. Using the example above:
Pre-money valuation: $5 million
Investment amount: $1 million
Post-money valuation: $5 million + $1 million = $6 million
Investor's ownership:
Why These Valuations Matter
Determines Ownership: These valuations affect how much equity the investor receives and how much the founders retain.
Future Rounds: As startups grow valuations play a role in future rounds, potentially raising or diluting ownership stakes.
Impact on Exit Value: The valuation will influence the financial return for both founders and investors if the company is acquired or goes public.
In Summary
Pre-money valuation: The value of the startup before the investment.
Post-money valuation: The startup’s value after adding the investment.
These valuations help investors and founders make informed decisions about funding and ownership distribution, setting the financial expectations and goals for the startup's growth trajectory.
