Coming up with the “right” and “exact” valuation for your startup is difficult. It is in the nature of startups that their future is not easy to predict because there is always a lot of uncertainty and risk involved. Once you start your conversations with potential investors, you will quickly discuss valuation. So how should you go about it?
When to use the First Chicago Method for startup valuation
Startups have a very dynamic future. Thus, the valuation depends a lot on how your company will evolve. You and a potential investor will have different opinions on the possible (and probable) future development of your startup. The First Chicago Method allows you to take different scenarios into account. These scenarios are then combined into one weighted average valuation. Investors in early stage ventures with dynamic growth models often use this method because it gives them better results.
How does it work?
The First Chicago Method is based on either the Venture Capital Method or the Discounted Cash Flow Method, but takes it a step further. You could see it as a refined – or more sophisticated – approach to startup valuation. In either case, in a first step you would plan 3 different scenarios of how your venture could evolve. You would have a worst-case scenario valuation, a base-case and a best-case valuation. For each case you calculate the valuation using either the venture capital or the discounted cash flow method.
In a second step, you combine the scenarios. You estimate how likely is it that the worst-case scenario will be the one that is going to happen, or the base-case or the best-case. You multiply the probabilities by the respective values and add them up. This gives you a weighted average valuation as a combination of the three scenarios.
Try it now for your own startup