SPARK’s incursion into angel investing in Nigeria has been successful though a small number of startups did turn them down.

The ‘accept or reject’ scenario is part of everyday life; one choice automatically eliminates the other, and the decision remains the mandate of the business owners. However some have been quick to black label anyone turning down such investment offers without asking what exactly was on the other side of the offer.

There are always two sides to any investment; investor offers value (money+) in exchange for value (equity+) in the business. In order for this exchange to happen both sides need a valuation that they are can be comfortable with.

Investing is a game. Each team tries to get the best value for their side. In a fair game both teams come to a compromise valuation. Unfortunately most local founders have no clue as to what their startup’s valuation is, and so leave it until when an investor makes a proposal. This is the main reason why we have accusations of blackmail, when in fact there is a scientific approach to valuation that should give objectivity.

Even if you are not planning to raise money, you need to have an idea of the value of your startup at any stage of its growth. So where does an early stage startup start? There are a number of valuation methods out there but most startups stick to two methods:

1. Valuation using multiples or comparables
2. Discounted cash flow (DCF)

Valuation using multiples or relative valuation is a method of estimating the value of an asset by comparing it to the values assessed by the market for similar or comparable assets.
Valuation using multiples

Valuation using multiples is a qualitative approach to valuation. AngelList’s valuation tool gives you a quick idea of how your valuation should look like, via pattern matching with data from startup exits.

As there’s little data about exits in Africa, most valuators see this as a risk that discounts any valuation for African startups using just international comparables. There is however no empirical way to arrive at a value for this African risk factor. Iyinoluwa Aboyeji sets it as a 25% discount, this can differ depending on if your market is within or beyond the continent. You have to work out your own.

Valuation using discounted cash flows is a method for determining the current value of a company using future cash flows adjusted for time value. The future cash flow set is made up of the cash flows within the determined forecast period and a continuing value that represents the cash flow stream after the forecast period.
Valuation using discounted cash flows

DCF Valuation is a quantitative approach to valuation that arrives at a present valuation (Net Present Value) based on cash flow projections of your startup. It is always better to have actual revenue in order to give your numbers tangible reference points in reality and thus better convince investors about the objectivity of projections.

The VC4Africa cohort programme is a good place to get help with how to value your startup.

So you have a valuation, but you still cannot agree with an investor — what do you do next? Remember you always have the option of convertible debts, such that the investor gives you a ‘loan’ in exchange for equity at a future date or event (e.g. an exit) when valuation could be better agreed upon.

Convertible debt is often a good solution to solve tricky valuations issues that are common in start-ups. Convertible debt when used in this context is a debt instrument which upon certain events converts to equity in either a specified amount or according to a specified formula. One formula commonly used for start-ups is to convert the debt to equity based on the price of the next round, but giving the investor a premium, such as twenty percent.
Convertible debt.

While valuations using multiples are generally quicker to arrive at, in all cases the DCF projections based on actual revenue give you stronger negotiating power.

Francis Onwumere is  co-founder and president of Prowork, a project management and collaboration solution for business. Follow him on Twitter here.

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