Compliance and company valuations are two of the founder's most critical responsibilities. As your startup grows, you’ll need to pay attention to the different legislations and requirements privately-owned companies must have to succeed. 

The 409A valuation is one such valuation and an essential document that can help drive success in the long run.

TL;DR? Talk to a 409A expert.

What are 409A valuations? Why are they necessary? 

409A valuations (409As) are assessments of a startup’s fair market value. More than just an appraisal, they set the strike price for the common shares awarded to advisors, investors, and employees and ensure that your stock options represent the company's actual value. 

While 409As aren’t mandatory, it is strongly advised for private, venture-backed companies to conduct regular valuations, especially if companies suspect something may have affected their value, such as after a new funding round or an acquisition. There are hefty penalties for non-compliance – you may face penalties from the IRS if you don’t comply with regulations and price your equity unfairly.

What do you need to prepare for a 409A?

While you can do your own 409A, it’s highly recommended that an independent, third-party appraiser does your valuations. The valuation can take some time, so prepare ahead of time by getting all your documents together before you start the process.

Various valuation methods are available, but generally, they all require a comprehensive set of documents about the company to be handed over to the valuer. Your valuer may ask for additional documents as the process moves along, but here are some of the key information valuers will generally ask for:

1. Company details

Provide basic company information, including corporate documents and the names of key personnel (CEO, leadership team, your legal counsel, if applicable). You’ll want to provide answers to questions like “what does your business do?”, “what services or products do you sell?” and “how does your company make money?”. 

Must include: 

  • Articles of Incorporation

    A company’s Articles of Incorporation is the set of documents filed with a government body to legally document the creation of a company. It contains the company’s name, address, agent for service of process, and the amount and type of stock to be issued.

    If you have made changes to the articles since they were filed, provide a copy of the amended and restated Articles of Incorporation.

  • Company bylaws

    Company bylaws are the internal rules that govern how a company is run. It’s usually one of the first items to be established by your board of directors and created after the Articles of Incorporation are submitted. They contain the standards that the company will follow and its operations.

  • Name of the CEO and upper management
  • Name of your legal counsel (if any)
  • Information on products and services offered
  • Business model and target consumers

2. Industry details

Provide details of the industry you work in. The 409A depends on a comparative analysis, so valuers will want to know how your company compares to others. 

Must include: 

  • Industry overview and size
  • Industry trends and projections
  • List of competitors or comparable companies

    💡Tip: Choose competitors or comparable companies listed in the public domain to make it easier for valuers to find information on them. If your business is new and you don’t have any direct competitors, find companies related to your offer.

‍3. Company financial statements 

This is a critical part of the 409A. Valuers will need to assess every asset the company owns to calculate the market value of common shares. Provide a balance sheet and other important financial statements like cash flow and income statements.

Must include: 

  • Latest cap table
  • Financial statements from the last five years (or since the company was incorporated):
  • Balance sheets 
  • Income statements 
  • Cash flow statements 
  • Forecasted revenue and EBITDA for the next year
  • Any outstanding debt

4. Fundraising details 

The 409A looks at your fundraising options, so provide any present and historical fundraising details. You can submit a pitch deck or executive summary if you don’t have a business plan. Aim to answer questions like “how does your company plan to raise funds?” and “how much funding do you plan to raise?”.

Must include: 

  • Business plan 
  • Probable time for liquidity
  • Stock options you plan to issue this year

5. Valuation date

Not to be confused by the 409A valuation report delivery date, a valuation date is when your business is assigned a value. Discuss the best date for you with your legal counsel.

Common dates include: 

  • The close of a recent funding round
  • The end of an accounting period
  • Before you issue stock options

6. Other relevant information

Depending on the valuation method, your valuer may ask for additional information. This could include information such as: 

  • Key accomplishments
  • A history of material events since your company was founded.

    A material event is when your company undergoes a change that would affect its share value or corporate structure.

    This could include events like:

    • A merger, acquisition, or both
    • Changing from a for-profit to non-profit, or vice versa
    • After a major funding event that involves the sale of preferred or common shares
    • A qualified funding event where ownership is given in exchange for funding
    • The significant secondary sale of company stock

Here’s a checklist you can download and refer to as you prepare for your 409A: 

409A valuation checklist excerpt
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Getting a 409A valuation is a critical part of any startup journey. The most important thing is to be as honest and open as possible. You’ll want to give valuers a clear picture of your company so they can give you an accurate picture of your company’s value.

And don’t worry if you get a low valuation. In fact, many experts point out that a low score is not bad – a low score allows companies to grant employees stock options at a lower, more enticing price.

Learn the 5 most common misconceptions about 409As

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