By Fernando Berrocal

Your organization's pre-money value refers to the agreed-upon value before raising funds, but its post-money value refers to the organization's worth after obtaining finances. This article will provide you with information about the implications of SAFEs and convertible notes on value, how to calculate pre and post-money valuation, and what the distinctions are between pre-money and post-money valuations.

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Pre-money and Post-money Valuation: To explain, here's a simple equation:

Pre-money Valuation + Investment Size = Post-money Valuation

Both are crucial for determining the worth of a business. However, an organization's pre-money worth has a greater impact on ownership percentages. Here is a simple example of valuation methods: Pre-money vs. Post-money:

• If you agree to a $1,000,000 pre-money valuation, your ownership share will be dramatically different than if you agree to one million of dollars post-money valuation. What is the reason for this? Let's look at both of these hypothetical valuations in more detail.
• If you agree to a $1,000,000 pre-money value, and a VC wants to invest $200,000 in your business, the investor's $200,000 will purchase 20% of the business, resulting in a post-money valuation of $1,200,000.

However, the same investment will get them 25% if they agree to a one million dollar post-money valuation. Why is this? Take the above equation and rearrange it a little:

Post-money Valuation - Investment Size = Pre-money Valuation

Notice how agreeing to a $1,000,000 post-money valuation after a $200,000 investment now entails agreeing to an $800,000 pre-money valuation.

• In the first scenario, the investor was purchasing a $200,000 chunk of a business with a $1,000,000 pre-money valuation, or 20%.
• In the second scenario, the investor receives a $200,000 stake in a business with a pre-money value of just $800,000, or 25%.

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Pre-money Valuation Calculation:

We've determined that the proportion of your business you must give up during an investment round is determined by its pre-money valuation and that the greater the pre-money valuation, the less of your business you must give up.

Developing a pre-money value, on the other hand, may be difficult. Often, it's as much about formulas and ratios as it is about you and your investors' perspectives on the business, the industry it's in, and the likelihood of it thriving in the future. The pre-money valuation you ultimately agree on might be influenced by a variety of circumstances, including:

• What stage of the startup lifecycle is your business in?
• How many other VC's are interested in investing in the business?
• What other businesses in your industry are doing, and how appealing the market you're in is to investors as a whole.
• The VC's investment style and habits.
• The state of the economy as a whole.

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Post-money Valuation Calculation: 

Which factors you already have on hand will determine how you calculate your post-money valuation. Do you recall the formula from earlier?

Pre-money valuation + investment size = post-money valuation

One technique to compute post-money is to take pre-money and multiply it by the magnitude of the investment. Another approach to figure out post-money valuation is to look at the share price you agreed to sell at, which is just the investment's dollar amount divided by the number of shares it buys the investor.

Share price = New investment amount / # of new shares received

Your share price is also equal to your entire post-money valuation divided by the total number of shares you own post-investment, as shown in the calculation above.

Post-money valuation / total # of shares post-investment = New investment amount / # of new shares received

This formula is slightly rearranged to become:

Post-money valuation = (New investment amount / # of new shares received) * total # of shares post-investment

Convertible notes:

Convertible notes begin as loans that 'convert' into stock when your business gets funds in a subsequent round of fundraising. It's effectively like reserving a seat in your first "real" fundraising round for early and angel investors, and it means you can put the value concern to the side for now. The trouble is that adding convertible notes to the mix may make calculating dilution much more difficult, turning the issue into a three-way tug of war.

Because the approach you, your convertible note-holders, and your series A investors employ to calculate share prices dilutes each of your resultant ownership shares differently. Founders are diluted the most under certain techniques, convertible note-holders are diluted the most under others, and venture capitalists are diluted the most under others. Someone needs to make a compromise.

SAFEs for Pre and Post Money: A Simple Agreement for Future Equity, like convertible notes, is a means for entrepreneurs to raise early-stage capital while deferring the valuation dilemma. The pre-money SAFE, first introduced by Silicon Valley's Y Combinator incubator in 2013, is a simplified convertible note that requires far less legal and paperwork. Although some investors favor one over the other, they both work in the same way.

After seeing that more businesses were raising larger SAFEs, Y Combinator released a revised "post-money" SAFE in 2018, which was designed to stand on its own as a distinct round of fundraising rather than serving as a bridge to future rounds like a series A.

The major benefit of the post-money SAFE is that the amount of ownership sold is immediately transparent and calculable for both the creator and the investor. With the pre-money SAFE, this wasn't always achievable, and founders didn't always realize how much dilution would be created by each SAFE they issued.

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