The Berkus Method – Valuing the Early Stage Investment.

             For those of us who’ve invested in early stage companies, especially technology start-ups, we have confronted a universal problem.  There are many ways to project the value of a company for purposes of pricing an investment, but all rely upon the revenue and profit projections of the entrepreneur as a starting point.  Many formulas then discount those projections according to some set percentage or by assigning weight to elements of the enterprise.

             And in my opinion, all fail to take into account the universal truth – that fewer than one in a thousand start-ups meet or exceed their projected revenues in the periods planned.

            Years ago, confronted with the same conundrum, in the middle 1990’s I came up with a method of assessing the value of critical elements of a start-up without having to analyze the projected financials, except to the extent that the investor believes in the potential of a company to reach over $20 million in revenues by the fifth year of business.

            First published widely in the book, “Winning Angels” by Harvard’s Amis and Stevenson with my permission in 2001, the method has undergone a number of refinements over the years, particularly in the maximum assigned to each element of enterprise value, reducing those amounts as the investment market adjusted from the craziness of the bubble to more logical values in the years that followed.  Because the Internet has such a long memory and documents from the distant past can be found with ease, a search the “The Berkus Method” today will yield a number of conflicting valuations culled from the many subsequent publications of the method over the ensuing years.

[Email readers continue here…]  Here is the latest fine-tuning of the method. You should be able to adopt it to most any kind of business enterprise if your aim is to establish an early, most often pre-revenue valuation to a start-up that has potential of reaching over $20 million in revenues within five years:

If Exists: Add to Company Value up to:
Sound Idea (basic value) $1/2 million
Prototype (reducing  technology risk) $1/2 million
Quality Management Team (reducing execution risk) $1/2 million
Strategic relationships (reducing market risk) $1/2 million
Product Rollout or Sales (reducing production risk) $1/2 million
 

                Note that these numbers are maximums that can be “earned” to form a valuation, allowing for a pre-revenue valuation of up to $2 million (or a post rollout value of up to $2.5 million), but certainly also allowing the investor to put much lower values into each test, resulting in valuations well below that amount.

                There is no question that start-up valuations must be kept at a low enough amount to allow for the extreme risk taken by the investor and to provide some opportunity for the investment to achieve a ten times increase in value over its life.

                Once a company is in revenues for any period of time, this method is no longer applicable, as most everyone will use actual revenues to project value over time.

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34 Responses to The Berkus Method – Valuing the Early Stage Investment.

  1. Dennis Cagan says:

    Dave,
    I was working with one of my new companies on a pre-screen with investors today. Someone recommended that we look at the Berkus Method of valuation. I said…… wait a minute. Is that DAVE Berkus. They said they did not know but it had something to do with Harvard. I quickly Googled it and WaLa, my old friend came up.
    How are you? Do you ever get to Dallas? Regardless, good wishes my old friend. Dennis

  2. Pingback: How to Value an Early-Stage Start-Up Company | Something's Brewing

  3. David Roberts says:

    This is an excellent methodology, thank you.

    I wonder if you have revised the numbers in the six years since first publishing it? Are the factors still all max $500k steps, or have they increased?

    Many thanks for your further thoughts

    David.

  4. find-way.net says:

    For early stage companies, I use the “ Berkus Method ” approach. Valuing an early stage company is not a precise exercise, even if the above methods lead you to believe that there is some precision in doing so.

  5. I found this very useful and easy to understand, thanks.

  6. HI ,

    I am currently applying DAVE BERKUS method for a mature startup in the medical space struggling with a PE investor for valuations .

    I’ll update once the deal whether it goes through or not … Thanks and Good to know the BERKUS Method

  7. this is very Helpful to me right now. Currently trying to value our new startup project at MAXIBU.

    Thanks DAVE.

  8. Faizal Zaki says:

    How do you calculate the value for each element?

  9. Dave Berkus says:

    Fazail,
    Valuation of each element is subjective. If you believe that management is capable of taking the company to profitability without adding a CEO or major change, that might give that element full value. If you see a risk in that, or need for professional management to be added to that milestone, reduce the value of that element.

    Hope this helps.

    Dave

  10. Ermanno Lelli says:

    I have an issue
    New startup pre-revenue
    Food delivery on line
    2 sided on demand platform
    I am working on it since 2 years and we will go online in few weeks
    some investors are interested
    How can i valuate the company?
    should i give part of my 100% or producing new %?
    Your suggestion is so precious
    thanks

  11. Dave Berkus says:

    Emanno,
    Thanks for your information. In short, early angel investors should receive a bargain, but not so much as to overwhelm your ownership percentage. Work it backwards. If you need $100,000, and not more within a year or less, it would be fair to give the investors a bargain $500,000 pemoney valuation, for 18.5% of the company. Note how I did this. You issue new stock, not give part of your original shares. The “premoney” value is your current value. Add their investment amount and that is the “postmoney” value. Divide that into the investor total investment and that will determine the postmoney percentage of ownership. Good luck!
    Dave

  12. Roz EK says:

    Hi Dave,

    We are raising funds for a start-up in the mobile payment industry in Africa. Investors need a valuation document. I’m wondering how to present it. Do you have a sample to share with us ?
    The company has been created since 2015, we spent 300 000 $ to have the first prototype and now we are raising 500 000$ to launch the solution. We have a brilliant team.

    Please can you help with this ?

  13. Dave Berkus says:

    Roz,
    It would be difficult to help with this small amount of information. As yourself how fast the company is growing – the faster the more valuable. Will your team get you to profitability? Is the competition holding your prices down so much that profit is difficult to obtain? What are comparable companies in Africa worth? Certainly less than Silicon Valley…

    Good luck with you enterprise!

    Dave

  14. Will Kim says:

    It is awesome and easy to use. I’d like to learn more of it

  15. Robert L Hesch CPA-ABV says:

    Mr, Berkus,

    I recently reviewed a prospectus applying the Berkus Valuation Method, valuing four elements at $0.5 mm and Product for $1 mm, a total value of $3 mm. Based on your article, it seems viable to use a maximum of $5 mm ($1 mm per element) when projected revenues in year 1 & 2 approximate $55 mm and $65 mm.

    Your thoughts?

  16. Dave Berkus says:

    Robert,
    Use of the Method for an early stage startup is its intent. And you’ll note in my 2016 update that the $500K elements can and should be adjusted (usually upward) to take into account the geographical base of the startup. Silicon Valley startups would usually command fouble that per element. But using the Method to attempt to find valuations in the future based upon projected revenue was not in the original design nor is it today. Too many plans fail to reach even a tiny portion of their projected revenues during those first critical years that I discourage its use for projecting value in future years. Period. Hope this helps.
    – Dave

  17. Mukesh Nathani says:

    please could you advise examples (with calculation) where Berkus method was used at startup time for a well known company today?

  18. Dave Berkus says:

    Mukesh,
    I am not the one to use the method and assign the values to those that use the method, so I don’t have the information you seek. Sorry I can’r help.
    -Dave

  19. Liwen (Brandon) CHEN says:

    Very glad to see your article about this brilliant method of valuating early stage star-ups. I am doing early stage investor training (training “rich” people to be Angel investors) I myself also investing in early stage companies. Is it fine with you if I use your method in my talks?

    Are you in Dallas? My family just moved to Dallas and I will visit Dallas frequently. Would be great if have chance to meet you and learn more from you in the future. Angel investment is boosting in China now and are you considering doing something there? We could collaborate :).

  20. Dave Berkus says:

    Brandon,
    You are welcome to use the method with attribution. I am in Los Angeles. All the best with your teaching!
    -Dave

  21. Liwen (Brandon) CHEN says:

    Dear Dave,

    Thanks for your kind permission of using the method.

    All the best!
    -Brandon

  22. gary lubin says:

    Has the Berkus Method stood up to an IRS 409a review?

  23. Dave Berkus says:

    The 409a appraisal is appropriate for companies into revenues. The Berkus Method is meant to cover those pre-revenue.
    -Dave

  24. gary lubin says:

    If the company is pre-revenue, what method(s) should be used to value the common stock for 409a purposes? (thanks for your response.)

  25. Dave Berkus says:

    A 409a protects the company when issuing stock options to employees. Some pre-revenue companies that have raised many millions will want to have that protection and order a 409a. (Carta is cheaper at this than most any private appraiser.) Smaller pre-revenue companies have much less a risk and use of this method with documentation for the board is not a risk. The SEC is the primary interested party and only playing with backdating of options combined with a whistleblower’s call would cause risk to a small company described here. Good question. Very, very low risk if documented.
    -Dave

  26. Mark P Tourangeau says:

    Maybe I am looking at this wrong, but in your response to Emanno wouldn’t a $100k investment that leads to an 18.5% share of equity equate to a $540,540 valuation? If you divide $600k into $100k, you get 16.67%

  27. Dave Berkus says:

    Mark,

    I re-read my response and you are right. The calculation would yield a 16.67% ownership. Nice catch.

    Dave

  28. Lee Do says:

    Hello Mr. Berkus,

    Thank you so much for coming up with this pre-money valuation. It is a great reference! I have a couple of follow-up questions if you don’t mind:
    1/ Is the method only applicable to the US and developed countries?
    2/ My startup is for emerging markets, specifically SE Asia. Should I rely on any indices, or should I refer to comparable companies in the local market? Can you help elaborate on that?

    Thank you!

  29. Dave Berkus says:

    Lee,
    The method is applicable in all countries. Just change the currency and the minimum amounts per element to fit your economy and investor profile. If you csan find the average investment by angel investors in companies close to your stage and type, let that be the starting point for four times the element’s total valuation in local currency and terms.
    Dave

  30. Kiangkiang says:

    Hello sir Dave,

    Im planning to invest on a losing company, which has an existing value of 2M usdollars, I believe the company is about to get a braekthrough as i saw its potential specifically since it has a unique product, the company valuation analysis in 5 years would be 40M USD, am going to invest 200k usd however upon copmputation of the company i would only get a share of 0.006 is this accepatable….

  31. Dave Berkus says:

    Kiangkaing,
    NEVER use the company’s estimate of value in future years! You invest $200K with a $2MM prmoney valuation now and receive 200/2200 or 9% of the company. I would also explore with your attorney establishing a preferred class of shares for this investment. Your example is NEVER acceptable. Walk from the investment if a seller of shares suggests using future value as an indicator of present value.
    -Dave

  32. Corey Albrecht says:

    Hello Dave,

    How did you determine the $2 million magic number that the 4 elements are based on?

    Thanks,
    Corey

  33. Dave Berkus says:

    Corey,
    Here is a link to the revised Berkus Method (after 20 years) explaining how that $500K number can move (usually up) depending upon geographic location and industry.
    -Dave

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