Thanks all for the comments
Anyone have a good, clear way to value a startup?
Well the most straightforward way to value it is the same as the most straightforward way to value anything.
Expected value. Look at the business plan. What is the estimation for long run annual earnings? Multiply that number by 5 or 6. That's what the "successful" valuation is. An established private company that has rock solid earnings going back a hundred years is probably only worth a multiple of 10. You have no liquidity, that's a substantial cost. It may be a cost you don't care about, but that shouldn't effect your valuation. There are plenty of illiquid investment opportunities at P/E's less than 15, some substantially so. Got your number? Multiply that by the probability that this will happen. If you use a number greater than
15% it better be a very conservative business plan. Here's a good way to tell if you are dealing with a conservative or dreaming business plan. What is the allowance for equipment failure? Is it 10% of the equipment cost? Is it 50% of the equipment cost?
Has it not even been mentioned? We'll assume that the business plan is quite conservative and that the probability of it actually happening is 15%. We'll further assume that this scenario is $70,000 in profits per year and a final valuation of $350,000. Scenario 2 is the business muddles along ekeing out a small profit after salaries etc are accounted for, we'll say $10,000 (though you need to be calculating this yourself). In this case your investment is worth $50,000. We'll assign this a probability of 35%. Half of craft breweries fail. You'll be quite tempted to think that your friend is special. He's not. In your valuation this is the one number you aren't allowed to change. Total loss at least 50% of the time. You get to write that off though so, you've got that going for you.
So our valuation is:
$5,000*Your cap gains tax rate(15%)*probability of failure(50%) + muddle probability (35%) * $50,000 * your share (0.5%) + success probability (15%) * $350,000 *your share (0.5%)
$375 + $87.5 + $262.5 =
$725Your expected value is $725, if we assume that this takes 3 years to play out we should discount it, I'm choosing a discount rate of 4% because I'd hate for you to accuse me of being too conservative. The net present expected value is $645. Spend $5000 on the lottery instead, its better for your financial health.
There is another worse scenario here. You get sucked in for more than $5,000. The question here is what does your friend's balance sheet look like? Is his house paid off? Does his wife work? What will you do when the business is sucking wind, he stops making mortgage payments, his wife leaves him, and he gets foreclosed on. The business is still going, he's working 80 hours a week, and he comes around asking for another $5,000 or $10,000. Do you invest more? That's not an impossible scenario. It
literally happened to a person I know who went into the business. His/her brewery didn't even fail (yet?). Do you understand me.
That isn't even the worst case scenario, he/she is still in! Your best case scenario might be a quick bankruptcy, the tax writeoff is probably worth more than what you'll actually profit from this. If you want to do this and you want it to make financial sense you need waaaay better terms. If this is the way you like to spend your money I have no judgement, I don't think its likely to be as much fun as you're hoping, because its a coinflip your friend
loses everything he has.
Some of the criticism here seems to be misdirected though. You are absolutely right when you say that our guesses on the craft brewing industry are worthless. They're probably less than worthless because they give the impression that you're thinking this through carefully. While many people point out that there is a lot of competition in the industry its got a lot of tailwind as well. It seems more likely than not that the regulatory environment will improve, and there is a lot of beer market share to take from the big guys yet. You could principally build a moat around a strong brand that you build, its not a terrible business to be in. But the terms you're getting are. I challenge you to post and justify a valuation that makes $5,000 for half a percent. If you can't, i'd just give him $4,000 and say good luck, you'll come out ahead and maybe you'll get a few free beers out of it.