70-397 Venture Finance Fall 2002 Slide 1 Class 9 Notes Valuation © Andrew W. Hannah.
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Transcript of 70-397 Venture Finance Fall 2002 Slide 1 Class 9 Notes Valuation © Andrew W. Hannah.
70-397 Venture Finance Fall 2002
Slide 2
Agenda
• Midterm Grades• Homework due tonight
• Winning Angels - valuation• ContentSoft recommendation
• Reflecting…• Recommendations• Valuation
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 3
Reflecting…
• What investors do – raise, invest, harvest• Angels vs. VC’s• History and trends• Fund economics• Investment models• Deal sourcing and screening (filters)• Deal evaluation (the entrepreneur and the pitch)• Due diligence• Deal Structure
• Valuation• Contracts and terms
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 4
Investment Recommendations
• Goals• Present a clear picture of the company, product and
opportunity• Present the diligence results in a manner that
supports the recommendation• Basis for the recommendation
• Markets – size, growth rate, key features• Competition – direct and indirect, key features,
strength and weaknesses• Comparables – business model, financials, valuation• Valuation – how much? Exit and when?
© William Hulley and Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 5
Investment Recommendations (Cont.)
• What is included in the company’s plan?• The Overview – a presentation of the company’s plan
• Market• Customer• Product• Management• Competition• Competitive Advantages• Financial Overview
• The Diligence• Market• Competition• Comparables• Valuation
• Recommendation – yes or no and why• The diligence memos (as appendices)
© William Hulley
ContentSoft Example
70-397 Venture Finance Fall 2002
Slide 7
Why Are Companies Worth What They Are Worth?
ICGE, Ariba, Cisco
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 8
The Fundamentals of a Stock Price
• Share Price= Company Valuation / # of shares
• Company Valuation = Share Price * # of shares
• Share price is what we follow but what is really fluctuating is valuation
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 9
So What Is Valuation Anyway?
• Theory versus practice • Theory : Discounted Cash Flows
• Discounted = Net Present Value• Cash Flows = Expected cash inflows less
expected cash outflows• Inflows = Cash from customers• Outflows = Costs to run the company
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 10
Present Value Basics• Future Value• You have $1• I guarantee you 10% interest for three
years (or inflation is at 10%)• Your value:
• Year 1: $1.10• Year 2: $1.21• Year 3: $1.33
• You are indifferent!• $1.33 in three years• $1.00 today
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 11
Simple NPV
• So….• Discount Rate = 10%• Time = three years• Future Value = 1.33
• What is the NPV?
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 12
Back to Valuation…
• Valuation (NPV) = Discount Cash Flows over some period of time
• Discount Rate = 100% (cost of capital)• Year 1 2 3• FCF $10 $20 $30• PV Fctr 1 2 4• PV $10 $10 $7• NPV $52.97 vs. $27
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 13
The Real Calculation
• NPV = Discounted Cash Flows (DCF) + DCF year ‘n’ / (cost of capital – growth rate)
• Terminal Value = the new part• Discount rate = cost of capital
• Rate you could borrow/obtain money at to grow your business
• Lower the risk the lower the cost of capital• Low risk = Bank debt (8% or Prime + x%)• Higher Risk = Public Offering (20%)• Highest Risk = Venture capital (50%? 75%? Higher)
• Growth rate = expected annual increase in cash flows
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 14
NPV Formula – Cleaned Up
• NPV = Future Value/ (1 + d) ^t• Future Value = cash flow• d = discount rate
• Reflects cost of capital• Risk free rate + risk factor
• t = time (“years”)• Terminal Value: cash flows in perpetuity =
[FCF (year n)/ (d – g)]/ (1 + d) ^ n• g = growth rate of FCF in perpetuity
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 15
Valuation Example
• Discount Rate = 10%• Growth Rate = 4%• Year 1 2 3 TV
FCF $10 $20 $30 $30PV Fctr 1 1.1 1.21 1.21PV $10 $18.18 $24.79
$413.22NPV $466.19
• TV= [$30/(10% - 4%)]/ 1.21 = $413.22
(Revisit ICGE and CSCO)
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 16
In the End..
• Valuation is based on expectations:• Are cash flow projections realistic• Growth rates• Risk of execution (discount rate)• Sustainable position• Ability to innovate
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 17
Valuation Methods For Entrepreneurial Companies
• Discounted cash flow?Multiples of public companies and sale of private companies:
SalesEarnings (current/future)Customers?
Negotiation
Remember: discount rates = risk and required rate of return = cost of capital
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 18
Use of Proceeds
Pre-Money Determinant Key MV
Drivers
“Plan in Hand” Proto-type Research
Formulaic ($2 - $6 M)
Founder Experience
Post-Seed (“A”) Proof of concept
Negotiation ($8 - $15)
Tangibles/ Intangibles
Early Growth (“B”)
Mgmt TeamCustomers
Negotiation ($15 - $30M)
Tangibles/ Intangibles
High Growth (“C”, “D”)
ExpansionAcquisition?
Comp Driven ($45 - $55M)
Public/Private Transactions
Valuation Methods By Stage
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 19
What Makes a Difference?
• The team’s experience• Stage of development• Customers• Protectable IP• Economic conditions• Size of the opportunity• Other
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 20
Valuation Strategy
• Entrepreneurs must triangulate (dcf and public & private multiples)
• VC’s:• Discount projections• Look for 55% discount factor• Look hard at public and private multiples
• Entrepreneurs best strategy: create an auction
© Andrew W. Hannah
70-397 Venture Finance Fall 2002
Slide 21
Pre- and Post-Money Valuation
• Pre-money valuation = value of the company before the investment round
• Post-money valuation = value of the company after the investment round
• Example• You own 50% of a company• Pre-money valuation = $10 million• You are raising $5 million• What is the post-money valuation?• What is your new ownership percentage?
© Andrew W. Hannah