What Does Post-Money Valuation Mean?
Post money valuation refers to the total worth of an enterprise after the injection of funds from investors. It indicates how much your company is worth after an investment.
The post-money valuation is essential because it shows the total value of your company after receiving outside funding. In addition, investors usually use this number to determine the percentage of ownership they have in a startup based on the amount they invest.
The post-money valuation determines how much equity each investor receives for their money. If you're raising money, you should know what your company is worth (or what investors will pay for it). You also need to know how much money you want to raise and how much control you're willing to give up.
Post-money helps a business:
- Determine the number of shares owned by investors. The fundamental essence of post-money value is to calculate the percentage of a business that has been sold out. Deducting the business' post-money value from its previous value establishes the amount of equity possessed by investors.
- Attract investment deals. A high valuation paints a successful picture in the market. Investors are thus more convinced that injecting their money into the business will give them better returns in the long run.
- Motivate employees. Employees' compensation stock options are aligned with the post-money valuation. As a result, the post-money valuation directly impacts employees' capacity to execute their stock options.
- Determine success. If the pre-money valuation arrived at after a round of financing is higher than the previous round's post-money valuation, it is a sign of success. It shows that investors are progressively valuing your business more.
How is Post-Money Valuation Calculated?
Post-money valuation is calculated by adding the pre-money valuation to the amount of money raised in a financing round.
The formula for calculating post-money valuation can be expressed as follows:
Post-Money Valuation = Pre-Money Valuation + Money Raised
Post-Money Valuation Example
Let's go through a three-step example of post-money valuation to get a clear snapshot of its application.
Step 1
Assume a business has a pre-money valuation of $200 million. Before the financing round, the business has two million outstanding shares, equating to a share price of $100 per share.
Step 2
The business undertakes a round of financing, which sees it issue 460,000 new shares. The funding raises $46 million of new equity at the pre-money valuation of $200 million.
Step 3
The business will thus add $46 million to its balance sheet to move from a pre-money valuation of $200 million to a post-money valuation of $246 million.
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Is Post-Money Valuation the same as Enterprise Value?
The post-money valuation changes when it receives external funding, but its enterprise value is not affected.
The post-money valuation and the enterprise value measure how much a company is worth. The difference is that Enterprise Value also includes the value of any debt the company has, while Post-Money Valuation only includes equity.
Enterprise Value = Post-Money Valuation + Debt
We can rearrange the equation to get Post-Money Valuation:
Post-Money Valuation = Enterprise Value - Debt
For example, suppose a company has $200 million in post-money valuation (equity) and $50 million in debt. It would have an enterprise value of $250 million:
Enterprise Value = $200M + $50M = $250M
Likewise, we could find the post-money valuation if we knew the enterprise value:
Post-Money Valuation = $250M - $50M = $200M
Enterprise value (EV) is the amount you would have to pay to take over a company, including all debt and cash.
Enterprise Value (EV) equals Market Capitalization + Preferred Stock + Debt - Cash and Cash Equivalents. Some people will include minority interests in this number.
Post-Money Valuation vs. Pre-Money Valuation
The term "pre-money" means the company's valuation before an infusion of capital, and "post-money" means the company's valuation after capital injection. The difference between the two is the timing of valuations.
However, they are related in that; the post-money valuation is equal to the pre-money valuation plus the amount of new equity that results from the investment.
For example:
Post-money Valuation = Pre Money valuation + The Funding Raised
Pre-money valuation shows:
- the current value of a business.
- The value of each issued share
The difference between the pre-money valuation and Post money valuation is essential when an entrepreneur has a great investment idea but is under the constraints of assets.
Here is a more detailed article on how pre and post-money valuations differ.
Who Uses Post-Money Valuation?
There are two groups of people who use post-money valuation: investors and founders.
Investors can use post-money valuation to understand how much equity they will receive. The post-money valuation is directly tied to the percentage of ownership that an investor will buy in a company. For example, suppose a company has a $10 million post-money valuation. An investor is willing to invest $2 million for 20% ownership. In that case, the pre-money valuation must be $8 million.
Startup founders are concerned with post-money valuations. Founders want their companies to be successful. Post-money valuations can be helpful in multiple ways to ensure success.
Suppose a founder knows they will be raising more money in the future. In that case, they should ensure that the last round did not overvalue the company. Likewise, founders need to make sure that they don't sell too much equity in their company so early.
What is a Post-Money Valuation Cap?
A post-money valuation cap protects investors against the possibility that future financing rounds may use lower valuations. A post-money valuation cap is typically set at a discount to the pre-money valuation of a previous round.
It is often used in series seed financings. In a typical seed deal, investors will be given the right to convert their debt or preferred shares into the company's common shares later. As a result, you often see valuation caps in a SAFE Note and a Convertible Note.
The conversion price may be set in advance (i.e., by reference to a discount off the next round valuation), or it may be set at that later date (i.e., by calculating the price per share each investor paid divided by the number of shares they are entitled to receive). In either event, companies and investors may agree to a post-money valuation cap when negotiating the terms of the convertible security.
Let’s take a quick example of a scenario where a post-money valuation cap is applied.
Step 1
So, suppose you are offered a $1.25 million post-money cap on a $1 million pre-money valuation. Your company has 10% founders’ stock outstanding. What happens to the founders’ stock in this scenario?
Step 2
The math is easy: Your company's new valuation is $2.25 million, and the founders have 10% of that, which equals $225,000. Since they had $100,000 invested in their seed round, they've now got $125,000 of "return" on their investment. They haven't sold any shares yet; they're just seeing what their paper returns are based on the new valuation.
Step 3
Now let's say that your company has raised a Series A round of financing at a $5 million pre-money valuation (with no cap). You will have raised two rounds after the Series A round closes: seed capital at a $1 million pre-money valuation and Series A capital at a $5 million pre-money valuation. There will be two different shares (founders’ stock and Series A preferred stock) with varying liquidation preferences for each class of stock.
Get a more detailed scope of the post-money valuation cap in this article.
Fully Diluted Post-Money Valuation
A company's post-money valuation fully diluted is the company's value after it has issued all its possible shares and granted all possible stock options.
Investors commit to purchasing a certain number of shares at a specific price in the funding round, known as the pre-money valuation. After that money is invested, the company's total value (including the investment) is called the post-money valuation. Once that happens, no more shares can be issued without watering down existing shareholders' ownership stakes.
The fully diluted post-money valuation refers to what happens if all convertible securities have been converted or exercised into shares. There aren't any other share issuances left to be had.
In the case of options and convertible securities like convertible preferred stock, it's possible for them to never convert into shares (options may expire unexercised, for example). In those cases, they won't affect the company's fully diluted post-money valuation.
The fully diluted post-money valuation is calculated by multiplying the number of shares outstanding plus the total number issued if all options and warrants were exercised.
This article explains deeper on dilution of shares.
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