Pre- and Post-Money Valuation
Pre-money valuation is the value of your startup just before the closing of a financing round, post-money right afterwards.
The current valuation of your startup is USD 4m. A business angel decides to invest USD 1m. After transferring USD 1m onto your bank account the valuation of your startup increases from USD 4m to USD 5m. The business angel now owns 20% of the company (USD 1m / USD 5m = 20%), and the existing shareholders are “diluted” from 100% ownership to 80% ownership.
It is crucial to understand that the post-money valuation is used as a denominator to understand ownership of new investors.
Practical tips for entrepreneurs
Make sure you are always specific whether you talk about pre-money valuation or post-money valuation. If you tell an investor that you think your valuation is USD 4m, she may assume that you talk about post-money valuation. In the example above this would mean that she expects to get 25% of the company (USD 1m / USD 4m = 25%).