It is basically impossible to determine the value of a pre-revenue startup company. Most valuation models involve sales and profits and since you may not have either, “value is in the eye of the investor”. Accomplishing key milestones based on your execution strategy goes a long way toward establishing credibility of your management team but there is another powerful way to build value in your company. That is through the relentless pursuit of validations.
First, let’s define validation in the context of milestones. Milestones are things you control and accomplish through your own efforts. These would include R&D goals, deploying marketing strategies, etc. Validations, on the other hand, are the things others do in response to substantiate, or validate, your efforts. In short, your milestones should lead to validations.
There are six types of validations every startup company should endeavor to capture on an ongoing basis:
- Intellectual Property (IP) Protection – Protecting your IP through patents, trademarks, and copyrights is often an early checkbox for investors. If you are granted a patent, beyond the obvious legal protection it provides, it means you have convinced the US Patent and Trademark Office that your idea is unique and worthy of legal protection.
- Paying Customers – Perhaps the strongest early validation you can win is your first paid customer. That means that someone has decided to exchange money for the value you provide in your product or service. You should sell something as soon as possible. Sell your early prototypes to “beta” test customers. Don’t wait for the product to be perfect, just good enough to provide your basic value proposition. Not only do you get early sales, but you get excellent feedback on version 2.0.
- Quality Key Employees – You will need help. Jim Collins says to get the right people on the bus before you decide where the bus is going. Find people with the skills and experience you lack. If they joining you at a reduced salary in exchange for equity options, it shows everyone’s interest is aligned in building company value.
- Partnerships and Alliances – These are companies who have joined you in pursuing your business opportunity, maybe even exchanging their value to you for a future benefit. An example is a manufacturing partner who develops a prototype at cost in exchange for the rights to manufacture the product. Another is a sales distribution partner who develops your marketing message and sales collateral in exchange for the right to sell the product at a commission. Partnering early keeps preserves your cash.
- Advisors – As early as possible, find smart people who will give you some of their time and expertise because they want to you to succeed. These include business mentors, legal and financial advisors, academic experts and world renowned researchers. Ask them for permission to be included in the business plan and executive summary. Their name will lend credibility to your management team. They may also be your future board members.
- Funding Partners – In addition to your own personal capital investments, it is important to scan the horizon for seed stage funding sources. These include federal, state and local grants like SBIR’s and SBA backed bank loans. Also include early investors such as friends and family but especially angels. These people have given you money because they want to participate in your vision and share in the future returns.
Everything in your business plan – every strategy, goal, and milestone – should have a targeted validation at the end. Your prototype should find a beta customer. Your marketing plan should lead to a sales partner. The more validations you stack up early, the more you manage risk, and the more value you build in your pre-revenue startup.