Valuation expert Joachim Blazer came up with a fun little thought experiment: is there a difference between raising money for your startup and selling your house? Well, there should be none. Here’s why:
Sell your house
You want to sell your house.
So:
-You set a fair price
-To ensure you reach many potential buyers, you put your house up for sale on sites like Funda
-You sell to the first buyer who pays the price
-Because there are many potential buyers, each buyer has an incentive to (1) pay a fair price – otherwise someone else will, and (2) act fast – otherwise someone else will.
The potential buyers compete against each other instead of against you.
Sell your shares
You want to raise money.
In 95% of the cases I see that founders ask only 1 more or less random potential investor for a term sheet and a valuation.
What do you think will happen? Three of these things happen most of the time:
-He will he lowball you
-He will stack the deck by putting in favourable terms like anti-dilution and liquidation preference
-He will take forever to decide
You either accept his offer or go bankrupt. You have zero negotiation power because you have no alternatives lined up.
This is a typical conversation I have with founders:
You: I am negotiating with an investor!
Me: That’s great! How many other investors are you talking to?
You: Uhm, none?
Me: Then you are not negotiating. You will have to accept whatever is offered.
Sell your shares – revisited
Fortunately, this is easily fixed.
You want to raise money.
So:
-You prepare a term sheet, which includes a fair price
-You seek out 3-5 potential investors
-You sell to the first investor who pays the price
-Because there are multiple potential investors, each investor has an incentive to (1) pay fair price – otherwise some else will, and (2) act fast – otherwise someone else will.
The potential investors compete against each other instead of against you. It’s just like selling a house.
Joachim Blazer is a valuation expert and corporate finance advisor at Venture Value. He helps founders raise money. Contact him at hello@joachimblazer.com. The original article appeared on his blog.
Image: Pexels
Hi Joachim,
Thanks again for your post (read it on your blog too). I get your point of letting investors compete for a fair or better deal when you sell shares of you company, and this makes sense. But… for startups it shouldn’t be only about the highest price. The difference with selling a house is that I don’t really care about who I am selling to, just give me the money. For investors, it’s different because they generally stay involved. “You sell to the first investor who pays the price” is maybe not your best strategy because you ignore the added value of the investor. For some startups, it’s indeed all about the highest price but others accept a lower valuation if the VC could offer higher added value.