Pre-Money Vs Post-Money. What’s the difference?
Pre-Money VS Post-Money
Pre-money and post-money are the commonly used terms to describe the valuation of an organization while raising capital.
Pre Money VS Post Money
Financing rounds come with an entirely new vocabulary and terms that businesses must get familiar with. You will frequently hear the terms “pre-money” and “post-money” primarily in a VS investment round. It can be either on a capitalization table or during between the company and its possible investors. Being a business owner, these terms are fundamental to your bottom line. Subsequently, it’s crucial to understand these notions, what they represent, and how they can influence the financing of your company.
Difference Between Pre-Money and Post-Money
Both terms refer to assessment measures of companies, though they vary in the timing of the valuation. Pre-money is the estimation of your business before an investment round. On the other hand, post-money is the worth of your business after an investment round. Post-money is simple for investors; though pre-money estimates are more frequently used. Speaking of a nutshell:
Post-Money = Pre-Money + Money received in the investment round
You might think why post-money estimates are simple? The assessment of the business is fixed in the post-money scenario. On the contrary, the business can make changes with variables such as Employee, Share Open Plan, Pro-Rata Participation Rights, and Debt-to-Equity Conversions. Convertibles like Keep It Simple Security and Simple Agreement for Future Equity have become more common for seed investment. The value of these instruments is a part of the post-money estimate at the time of investment.
Calculating Pre-Money Valuation
The foremost thing you should keep in mind is the pre-money valuation of a company comes before its funding. However, a rough estimate can give a clear picture of the investors about what the business would be valued. Measuring the pre-money estimate is not very difficult. But it requires one more step that can be only performed once you have determined the post-money valuation.
Pre-money has a great influence on the size of the investors’ ownership stake in the business from their investment. This is primarily due to the price per share (PPS) that an investor will pay for its stock. Here’s how it works:
PPS = Pre-Money Value/Fully Diluted Capitalization
Setting separately for the full-diluted capitalization, the PPS and pre-money estimates are directly proportional. The high pre-money value means more investors will pay per share for their investment. Subsequently, a few shares the investor will get for a given investment.
Example 1: Company A is going to invest $2 million into company B depending on the $8 million pre-money estimates. After the investment, A will have a 20% of B ($2 million will be equal to 20% of B $10 million post-money value.
Example 2: Company A is going to invest $2 million into company B depending on a $7 million pre-money valuation. Once the investment is done, A will own 22% of B (A $2 million will be equal to 22% of B $9 million post-money value.
Pre-Money Valuation = Post-Money Valuation – Investment Amount
Considering the pre-money estimate of a business makes it easier to figure out its per-share value. To perform this, follow the below-listed equation.
Per-Share Value = Pre-Money Assessment ÷ Total Number of Shares
Calculating Post-Money Valuation
Its relatively easier to figure out the post-money valuation. To do this, use the following equation.
Post-Money Estimate = Investment ÷ Percent Investor Gets
Suppose an investment is $3 million nets an investor 10%, the post-money estimate would be around $30 million:
$3 million ÷ 10% = $30 million.
Though remember one thing. It doesn’t mean the company is valued at $30 million before receiving a $3 million investment. This is due to the balance sheet that showed an increase of $3 million worth of cash. Therefore, its value is increased by the same amount.
Pre-money value is just the amount that an investor and the business agree to consider the company to be valued before the investor’s finance. It significantly helps in determining how much the investor will pay per share for the stock it intends to buy.
Example: Company A will invest $3 million into company B depending on an $8 million pre-money valuation. Here’s the pre-money value is $8 million. It represents what A and B have agreed B is worth at the moment proximately before A new investment.
- Pre-money and post-money vary in timing of valuation
- Pre-money valuation is the value of business excluding outside funding or the latest round of finance
- Post-money valuation comprises of external financing or the latest round of funding.
Why Post-Money Valuations are Rare?
Anchoring is an important strategy often used in marketing. Consumers look forward to the lower number, regardless of the result. For instance, a hotel rate is quoted as $100 per night plus 15% taxes, 5% service fee, and $10 per night government fee while another hotel rate is quoted as $160 per night. Since the first-rate has a lower number, it will look more appealing.
If you want to negotiate a $10 million Series A round at $15 million (pre-money valuation) or $15 million (post-money valuation), the pre-money number is more attractive for the investor to take back to their associates. By using the pre-money estimate as the anchor allows the post-money estimate float, and the owners can negotiate more favorable terms as a critical part of the investment round.
Do You Need Valuations Cost Money?
We have observed some owners ignore one or the other form of the valuation process, or just a pre-money estimate on their business after deciding how much of the organization they are eager to give up in exchange for the investment they require.
The shortcoming of this tactic is providing an unrealistic valuation, and your possible investors reflect you are not prepared. One thing to remember is that investors will also consider other factors related to your business. For instance, the target market, scalability, competitors, etc.