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How do they determine the 409A valuation for a company that doesn’t raise venture capital?

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Editor’s note: A version of this question originally appeared on Reddit.

I’m currently applying to a company that gives shares to new employees. It doesn’t plan to go public anytime soon, and they’re not looking for new investors.

I’m curious how the company’s valuation changes if the company remains private and doesn’t receive any investments? The share price must depend on company valuation, but if nothing happens to it, who is evaluating it?

I’m afraid of getting stuck for a couple years in a company with stagnant stock options, as I’ve also got an opportunity to join a public company, where share value makes a lot more sense to me.

- Anonymous

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Dear Anonymous,

Private companies that issue stock options to their employees regularly perform 409A valuations, which are designed to estimate the current value of the company’s shares.

They’re legally required to perform a new 409A valuation at least once per year, and after major corporate events that change the company’s value in a meaningful way, such as new rounds of venture funding.

A third-party valuation company comes in and evaluates financial indicators, like sales growth and profitability, to estimate how much the company is currently worth. New rounds of funding change a startup’s 409A valuation, because they now have the working capital they need to dramatically affect the growth of the company, through hiring, building new products, or acquiring competitors.

That said, there are lots of examples of startups that either bootstrapped their way to an exit, raised a little bit of seed capital to get to profitability, or just waited to raise until they could negotiate a late-stage growth round at an attractive valuation. Mega-sized rounds of venture capital are an important indicator for startup health, but not the only indicator.

Without knowing the specifics of the company that you’re interviewing with, it’s impossible to know whether the company appears to be on a good trajectory.

A startup employee’s most valuable resource is their time. When you’re picking your next role, think like an investor and ask yourself: Is this a company that I’d invest in if I could? Do I believe in the founders, the team and the product?

If you wouldn’t invest your money in the startup, you might want to consider investing your time in a company you’re more enthusiastic about.

If you get far enough along in the hiring process, these are all questions you should feel comfortable asking the members of your hiring committee; hopefully you’ll get the answers you’re looking for.

- Vieje Piauwasdy, Senior Director of Equity Strategy, Secfi

Do you have a question about your stock options? Email us at ask@secfi.com

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