India is witnessing immense activity in the start-up eco-system. The buzz is no longer confined to Bengaluru or amongst the college pass-outs. Many professionals are joining hands with fellow colleagues and launching their own ventures.

Each of these ventures needs funding, at angel, seed, growth or late stage. Three key questions come to any entrepreneur mind. Which is the optimum stage any venture should seek funding at? What is the ideal valuation?

What percentage of equity can be offloaded to investors?
Key factors for consideration in valuation of unlisted companies are:
* Idea–demand, scalability, IP protection, entry barriers to competition.
* Team–education, experience, complimentary skills, values, maturity, vision and passion.
* Product stage–idea, development, pilot, traction, launch, growth.
* Finance stage–own money, family & friends, individual angel, established angel, seed fund, growth fund, late stage.
* Sales figures, if available (for sales multiple).
* Debt in the venture.

Some of the established methods include discounted cash-flow (DCF) model, cost-to-recreate model, and market-multiple-model. However, market-multiple model works when sales or comparative data is available from another company.

A friend who quit his plum job to start a healthcare venture has a simple valuation model: He pegged the valuation at R6 crore, considering R2 crore for his IIM-A background, R1 crore for having set up his company, R1 crore for putting in his 15% investment into the venture, R1 crore for having developed the product (yet to launch) and R1 crore for initiating contractual agreement with some 20 partner-vendors in South Delhi. Basis this, he has roped in 8-10 investors, giving less than 10% equity to them collectively.

Nathan Beckford, founder of Venture Archtypes and Mahesh Murthy, who funded 50-plus startups, offered stage-of-development as a proxy to the kind of investment a venture can command, and thereby arriving at the valuation and then applying any adjustments (see chart below).

Another interesting model of valuation variation has been exhibited by https://angel.co/valuations in which difference in valuation has nothing to do with many of the venture stages discussed above. It has data basis college (Stanford, Berkeley, Harvard, Mumbai University, etc), incubator reputation, past employers of founding members, location (Silicon Valley, Bengaluru, etc) and markets cater to (big data, hardware, mobile commerce, etc).

These methods do not matter in the later stages of funding. Simple calculation goes, how much money is needed by the venture, for equity that it is willing to offer. For example, if $600 million is needed in stage X and equity that venture is willing to offer is 2%, valuation becomes $30 billion. All the earlier investors should be notionally making money at this price.

Clearly start-up valuation is an art, not a science. Grey area lies in the valuation of the non-tangibles. Individual perception and hype contribute to inflate the valuation, to exit on a ‘high’.

Some of the Indian e-commerce companies are valued very high. Housing.com, currently valued at R1,500 crore, Quickr at $1 billion, Paytm at $1.5 billion, Snapdeal at $2 billion, Ola at $2.5 billion, Flipkart at $15.5 billion (R93,000 crore-plus) are such examples. Would they sustain the kind of valuation even after listing?

For a perspective, Indian Oil Corporation is valued at R94,000 crore currently and except for the top 20 Sensex companies, all other companies would have a valuation lesser than Flipkart’s.  Makemytrip.com, once the bellwether of the Indian e-commerce bandwagon, is no longer a cynosure of investor eyes. It reached to a valuation of $800 million just after listing and is currently valued at $450 million.

Will this insane valuation of Indian start-ups sustain, is a big question mark. Big foreign money is entering India and chasing only the chosen few, considering them ‘safe’, and increasing their valuation unrealistically. There are many ventures that have huge potential but are still lurking in limbo, in the absence of visibility. It is better to make a correction, diversifying and going beyond the celebrated few, to value appropriately, instead of bringing the whole eco-system down with bad examples.

The author coaches entrepreneurs. email:  india.ashishjain@gmail.com