Introduction to

Startup Financing
&
Valuation

Dr. Daniela Ruiz Massieu

 In this session we will learn
Startups and financing options

Introduction to Venture Capital

Startup Valuation Challenges

Valuation method (framework) for early-stage companies

(pre-revenue)

Overall objectives: 1. Learn what is venture capital 2. VC evaluation

methodology for early-stage (pre-revenue) companies 2
Startups and financing options
 Startups
First, we need to define what a startup is and why are financing alternatives
different for startups.
✓ Introduces new products or services
to the market
✓ Associated witn innovation, design
and technology
✓ Creates value
✓ Generates high-quality employment
and growth through innovation
✓ Potential for high growth
✓ Are potential candidates to raise
funds from venture capitalists 4
Startups

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 Startups- Innovation Driven Enterprises
SME (Small Medium Enterprise) IDE (Innovation-Driven Enterprise)
Local Market Focus Global Market Focus
Restaurants, Dry Cleaners, Services Products w/ Innovation at Core

• Linear growth (capped) • Exponential growth (uncapped)

• Less investment required • A lot of investment required

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Source: Disciplined Entrepreneurship: 24 steps to a successful startup. Bill Aulet.
 Startup J- Curve
Cumulative Cash Flow

Who is
funding
this?

Burn Rate: the amount of Runway: how long can

Date of first cash
money your company is flow positive the company last
spending on a monthly before running out of
time
basis. money.
Date of Cash
breakeven
Burn Max. financing
Rate needs

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 Startup Financing
Finance for startups is “different”:

❑ No financial history

❑ No access to traditional sources of financing (e.g. bank, suppliers, etc.)

❑ A large investment needed

❑ No positive cash flows---- lose money in first few years!

❑ Uncertainty!

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Rapid growth has companies on a treadmill. The
faster they grow, the more cash they need.

Who is funding this?

What is the adequate source of capital ?

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 Startup Financing Options
Entrepreneurs rely on different sources of capital to finance their companies.

Informal
Own Capital
(3Fs)

Banks Entrepreneurial
Keep your cap table
? Ecosystem as clean as possible!

Venture Capital
(Angel Investors, Venture Capital
Funds, Corporate Venture Capital)

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 Equity Financing

Source: Raising Capital: an expert guide to fundraising and investing in Startups in Mexico. MassChallenge. 2018. 11
 Startup Financing Options

CUMULATIVE CASH FLOW

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Introduction to Venture Capital
 Business Angels / Angel Investors
Angel Investor ($)
▪ Angel Investors are individuals who
invest their own capital in startups. Company 1 Company 2 Company 3

▪ These investors are usually

entrepreneurs, senior executives in
large companies or former Angel Investor (US) Angel Networks
entrepreneurs. (Examples) (Examples)

U
▪ They have relevant expertise and look S

for returns but also for involvement and

mentorship opportunities.
M
▪ The angel investor industry in LATAM e
x
still needs to strengthen. Some Angel i
Networks have started to emerge. c
o
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 Venture Capital Funds
▪ Venture Capital (VC) is a form of private equity. General Structure

▪ VCs (General Partners, GPs) raise funds from Insurance Co. Pension Funds Fund of Funds Other Investors
LP LP LP LP
institutional investors (Limited Partners, LP) to
Management fee
invest that capital in a portfolio of risky (e.g. 2%)
investments. Investment “General Partner”
Vehicle
▪ When VCs invest in a company, they take an Return participation:
ownership position. In exchange of their - Carry (e.g. 20%)
- Hurdle Rate (e.g. 8%)
investment, they will receive shares in the
company.
Company 1 Company 2 Company n
▪ VC’s seek to be active investors, adding value to
the companies in a variety of ways.
Exit (e.g. Trade Sale, IPO, larger Fund, MBO)
▪ The investment vehicles are closed; and VCs
make capital calls according to the transactions.
▪ The fund’s investment horizon is limited. Funds
must exit the investment at the end of this
period. 15
One Venture Capital Firm may manage several
Funds
Investment Period
Years 1-5
Disinvestment Period
Years 5-10

Fund I

Fund II

Fund III

Example: AllVP

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 Venture Capital Funds
(A few examples)

Source: https://latamlist.com/understanding-the-vc-landscape-in-the-latam-ecosystem/ 17
 Venture Capital Funds
(A few examples)

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Source: https://latamlist.com/understanding-the-vc-landscape-in-the-latam-ecosystem/
 Venture Capital Funds
(A few examples)

COLOMBIA

https://startupeable.com/directorio/explora/?type=venture-capital&sort=a-
z&pais=colombia&etapa=pre-semilla,semilla,series-a,series-b 19
General Characteristics of early-stage capital providers

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Source: Clercq, D. De, Fried, V. H., Lehtonen, O., & Sapienza, H. J. (n.d.). An Entrepreneur ’ s Guide to the Venture Capital Galaxy, 90–113.
Quick Snapshot: VC LATAM
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Source: LAVCA Tech Report 2021.
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Source: LAVCA Tech Report 2021.
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Source: LAVCA Tech Report 2022.
25
July 2021

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 The massive influx of capital has led to the
emergence of a wave of Soonicorns, that is,
startups valued at more than US$100 million,
which are not yet unicorns, but which stand a
good chance of becoming so.

ALL VP Research: Soonicorns Report

Source: https://www.notion.so/Soonicorn-Club-LIVE-54cd9bbed46545afa6c4a546bc6dadce

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US$ 100 million!

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Soonicorns in Colombia
(A few examples)

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Valuation Challenges
Q. How often do startups get a
valuation?

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Q. How often do startups raise
money?

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 Startup Valuation and Dilution

• In general, a startup needs more

than one financing round to
achieve its potential.
• Thus, growth is financed
through multiple rounds.
• Each round comes with dilution
for founders and other
investors*

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 Startup Valuation is VERY challenging
• They are private companies: not efficient market
mechanism to value them.
• Higher risks and higher uncertainty
• Uncertainty of product adoption or market
penetration
• Unpredictability of future revenues
• Limited historical financial data. Little or erratic
operational history. If history…… negative cash
flows.
• The exit becomes crucial
• Limited data… specially in LATAM

Valuing a startup is more of an art than of science 36

Source: S1 Filing- https://www.sec.gov/Archives/edgar/data/1792789/000119312520292381/d752207ds1.htm

Fuente: Twitter. Doordash

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Source: https://www.cnbc.com/2020/12/09/doordash-ipo-dash-trading-nyse.html
 What about the numbers?
In 2019 and during the nine months ended September 30, 2020,
Door Dash generated revenue of $885 million and $1.9 billion,
respectively.

In the same periods, the company had gross profit10 of $335 million
and $944 million, respectively, and $(200) million and $433 million,
respectively, in Contribution Profit (Loss).

In 2019 and during the nine months ended September 30, 2020, the
company had a net loss of $667 million and $149 million,
respectively,

To address the massive market opportunity ahead of us, we have

made substantial investments in sales and marketing and
promotions to attract and engage new consumers.

Fuente: S1 Filing- https://www.sec.gov/Archives/edgar/data/1792789/000119312520292381/d752207ds1.htm

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How easy is to get funding?

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How do investors evaluate early-
stage companies (pre-revenue)?
 So, how do investors evaluate early-stage
companies?
Example
G-U-L-L-L-P
(Bob Green,MIT Sloan Professor)

G - Great Ideas
U - Uniqueness
L - Leadership/management
L - Large market opportunity
L - Location
P - Pricing and valuation
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 Scorecard Valuation Method
This method compares the “target company” to typical angel-funded startups. It
adjusts the average valuation of recently funded companies in the region to
establish the target’s pre-money valuation.This comparison can only be made for
companies at the same stage, in this case, pre-revenue startups.

Step 1: Determine the Average Pre-Money Step 2: Scorecard Method

Valuation

Avg. Weight Factor

• Period of economic • Period of economic 0–30% Strength of the Management Team

contraction expansion 0–25% Size of the Opportunity
0–15% Product/Technology
0–10% Competitive Environment
0–10% Marketing/Sales Channels /Partnerships
USD$2M 0–5% Need for Additional Investment
0–5% Other

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Source: William Paine. Angel Resource Institute (ARI)
 Scorecard Valuation Method
The company will receive a higher valuation, than the average, if the team has previous
relevant experience, has a complementary team, taps a large market, has tested the product,
the market is fragmented, sales channels have been used, and the company will not need to
raise additional capital.
Strength of the Entrepreneur & Management Team (30%): Competitive environment (10%)
• Relevant experience • Strength of competitors in this marketplace
• Willingness to step aside, if necessary, for an experienced CEO • Competitive products
• Coachable
• Diverse & complementary team
Marketing/Sales Channels/Partnerships (10%)
Size of the Opportunity (25%): • Identified partners
• Size of the target market • Identified and tested channels
• Potential for growth • Trial orders in place
• Potential for revenues
Need for additional financing rounds (5%)
Product/Technology (15%): • Need for additional angel or VC round
• Product defined and developed
• Product is compelling to the customers Other (5%)
• Product is not easy to imitate • Ex. Customer feedback 43
Source: William Paine. Angel Resource Institute (ARI)
 Making the Valuation Calculation
(Example)
Assuming that Latin America is a less competitive market for startups thatn U.S., we
estimate an average pre-money of $USD 2.0M in the region.

Target Calculation Formula:

Avg. Weighted
Factor Company
Weight Factor
Score Avg. Valuation in LATAM x Weighted Factor
Strength of the Management Team 30% 125% 0.375
USD$ 2.0 x 1.075 = 2.15 M
Size of the Opportunity 25% 150% 0.375
Product/Technology 15% 100% 0.150 USD$ 2.15 M is the pre-money valuation for
Competitive Environment 10% 75% 0.075 the company
Marketing/Sales Channels
80% 0.080 Then:
/Partnerships 10%
To obtain post-money valuation:
Need for Additional Investment 5% 100% 0.050
Pre-money valuation + Investment
Other 5% 100% 0.050
Weighted Sum 1.075
% Angel = Investment/ Post-money Valuation

If angel wants to invest $300k, then

% Angel = ($ 0.3 / 2.15 + 0.3) = 12.24%
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Source: William Paine. Angel Resource Institute (ARI) The Angel will buy 12.24% of the company
Contact:
Daniela Ruiz Massieu
druizmass@itam.mx 45
Teamwork
 Valuation & Equity Stake
(Worksheet Scorecard)
1. Review the scorecard methodology
2. Brainstorm with your team an assign a score to each factor. Write at least 2-3
arguments for each factor.
3. Estimate pre-money valuation. Show your arguments: Be ready to defend your
valuation!!!
4. Obtain the post-money valuation by adding an estimate of the required
investment + pre-money valuation.
5. Determine the investor’s equity stake.
6. Ask yourselves: Does it make sense?

Deliverables:
• Slide 1: Quick description of your business idea
• Slide 2-3: Scorecard Valuation, Equity Stake & Rationale for each factor 47
 Example of Slide 2: Valuation

Target Rationale (details!):

Avg. Weighted
Factor Company
Weight Factor Strength of team:
Score
Strength of the Management Team 30% 125% 0.375
Size of the Opportunity 25% 150% 0.375 Size of Opportunity:
Product/Technology 15% 100% 0.150
Competitive Environment 10% 75% 0.075 Technology:
Marketing/Sales Channels
80% 0.080 Competitive environment:
/Partnerships 10%
Need for Additional Investment 5% 100% 0.050
Other 5% 100% 0.050 Marketing:
Weighted Sum 1.075
Need for additional investment:
Pre-money: USD$ 2.0 x 1.075 = 2.15 M
Post-money= 2.15 M + Required investment Other:
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