Startup Valuation vs. Share Price

When you talk to investors, they always discuss your startup valuation with you. However, when you sign an investment agreement, it specifies the price per share (for simplicity, we’re not considering SAFEs and convertible notes here). So what’s the difference?

Let me start from afar. We often use words in everyday life whose meanings we think we understand. For example, what is the price? It’s the number on a price tag in a store, which I can pay at the checkout to purchase the item. But this price depends on a variety of factors. For instance, a bottle of Coca-Cola will be cheaper in a supermarket than in a restaurant. Why is that? It’s because price is the amount a buyer is willing to pay for a product or service, and a seller is willing to accept. For mass-market products, the price can be displayed publicly on a price tag.

If a product is more unique, determining the price becomes more complex. For example, you want to buy an apartment. The final price will be specified in the sale agreement — the amount you’re willing to pay and the owner is willing to accept. But before you buy, you want to understand whether it’s worth the money. So you look at similar apartments in the same area and check the prices sellers are asking. This gives you a range of current prices, taking into account the apartment’s location, floor, renovations, documentation specifics, etc. This forms the “valuation” of the apartment — a reasonable price range for similar properties being sold right now. You’ll negotiate the exact purchase price with the seller, and this range helps you bargain. This is known as the comparative market analysis method. Finance professionals know about the income and cost methods as well, but those don’t apply to startups.

A startup valuation is also determined using a comparative method. Investors simply compare your startup to other startups in the market they can invest in. As a result, they determine a range within which they are willing to invest in your company. A founder can also estimate this range by reviewing reports on average valuations from Carta, KPMG reports, etc., and by talking to investor friends to get their perspective on a reasonable range. Just like with real estate, you use the valuation as a range for reasonable negotiation. But of course, you may want to close a deal at twice the high end of the range or half of the low end. The key is to find a buyer who’s willing to agree. When that happens, your valuation turns into the share price you specify in the documents.

And finally, here’s an analogy for the physicists out there (since I’m one myself). Remember our beloved Schrödinger’s Cat — the one that’s both alive and dead until observed? Well, a startup’s valuation is like the wave function. And the price is the state of the cat once the observer arrives. If you understood the analogy — or at least made it to this point — leave a comment saying “poor kitty” :)

Wishing you successful negotiations with investors!