Startup World (Part I): Valuation Methodologies, Challenges, and Approaches for Early-Stage Startups
How much is your startup worth? This is one of the questions most frequently asked of newly founded innovative entrepreneurs, and it is often followed by the inability to provide a meaningful answer—or by a purely hypothetical figure determined without any methodological or technical support.
This is one of the most complex activities in the innovation landscape. Unlike mature companies, startups typically operate in highly uncertain environments, with products still under development, little or no revenue, unvalidated business models, and—above all—significant funding needs. For this reason, the choice of valuation methodology must be assessed based on several factors, outlined below in a non-exhaustive manner.
A first key aspect is the stage of the startup’s life cycle at which the valuation is performed. This is far from trivial, given the inherent speed of business typical of startups and the significant balance sheet, economic, and financial changes that can occur over relatively short periods of time (especially when compared to traditional companies). These changes are, of course, driven by the fundamental requirement of business scalability. As a result, valuation approaches can vary substantially from one stage to another;
A second aspect—specific to the valuation of early-stage startup that are not yet on the market—relates to the critical lack of historical data, such as financial statements, which, as we know, are a preferred benchmark particularly for banks.
A third aspect concerns the close relationship between the purpose of the valuation and the valuation itself: whether it is aimed at crowd investors, venture capital or institutional investors, prepared for exit valuation purposes, strategic reasons, or other objectives. The intended audience and purpose have a strong influence on the methodology adopted.
The aim of the valuation is to narrow the gap between price and value—that is; to represent a value as close as possible to the price an investor is willing to pay to enter the company’s equity and therefore “take a risk” on the business.
With these premises in mind, we observe that in early-stage startups—where traditional financial methods are difficult to apply, the Berkus Method and the Scorecard Method are widely used.
The Berkus Method is one of the most commonly used valuation approaches for startups in their embryonic phase, namely pre-seed and seed stages. The core idea is to base the pre-money valuation on five key factors:
a sound business idea;
a working prototype;
a high-quality management team;
strategic relationships;
product launch or initial sales.
In newer versions of the model, additional drivers can be considered depending on the specific characteristics of the startup with aims to avoid unrealistic financial projections, focusing instead on concrete elements of the startup’s development.
This method is based on a qualitative–quantitative approach, according to which intangible assets are the foundation of a startup’s future success and are therefore as valuable as tangible assets are for established companies. Each factor is assigned a value (with predefined maximum caps), based on an analysis of the startup that is both comparative—against other startups at the same stage—and qualitative, using questionnaires that translate responses into monetary equivalents.
Like the Berkus Method, the Scorecard Method allows for a pre-money valuation of pre-revenue startup without relying on financial forecasts. Unlike the Berkus approach, however, it is fundamentally comparative.
The valuation process consists of:
starting from the average pre-money valuation of comparable startups operating in the same geographic area and industry as the target company;
adjusting this average valuation upward or downward by comparing the target startup’s performance against that of its peers.
In simple terms, the Scorecard Method “corrects” the average valuation of comparable companies to arrive at the pre-money valuation of the target startup.
As with the Berkus Method, the valuation is based on key drivers, each assigned a predefined weight:
strength of the management team (max 30%);
size of the opportunity (max 25%);
product/technology (max 15%);
competitive environment (max 10%);
marketing, sales, and partnerships (max 10%);
need for additional investment (max 5%);
other factors (max 5%).
Methods such as Berkus and Scorecard remain among the most suitable during the earliest stages of a startup’s life, while traditional financial methods become relevant only once the business model begins to be validated. However, the subjectivity inherent in these approaches makes it difficult for investors to verify their reliability.
For this reason, the quality and reliability of data sources, the choice of valuation drivers, and—last but not least—the ability to strike a balance between vision, execution capability, and investors’ risk perception all play a fundamental role.
