Valuing Young or Startup Firms Flashcards
When valuing a firms, how many sources of information do you have to draw from?
What are they?
Three
- Current financial statements of your firm
- Past history of your firms
- Firm’s competitors or peer group
What does the current financial statements of the company tell us?
You can use these to determine:
- How profitable a firm’s investments have been
- How much it reinvest back to generate growth
- All other inputs required in valuation
What does past history, in terms of earnings and market prices, tell us?
A firm’s earnings and revenue history over time lets you make judgement on how cyclical a firm’s business has been and how much growth it has shown.
A firms price can help you measure its risk.
What does looking at our competitors or peer group tell us?
You can look at these to get a measure of how much better or worse a firms is than its competition, and also to estimate key inputs on risk, growth, and cash flows.
What are the main problems we run into when valuing these young firms?
- Very limited history - Most of these firms have not been in existence for longer than a year or two.
- Limited information - Current financial statements reveal very little about the component of their assets - expected growth - that contributes the most to their value.
- No competitors or peer group - These firms are often the first of their kind of business
The value of a firm is based upon…
It is equal to the….
its capacity to generate cash flows and the uncertainty associated with these cash flows.
Present value of expected cash flows from its assets.
What is the “problem” when valuing startups?
These firms are far earlier in their life cycles than established firms and often have to be valued before they have an established market for their product.
The problem [valuation] is not a _________ one but one of _________.
Conceptual
Estimation
Who created the Venture Capitalist Valuation Method?
Created by Harvard Professor Bill Sahlman in 1987.
Explain the Venture Capital Method.
- Revenues are projected out till the day of sale.
- Estimate a figure for earnings
- Determine a terminal value based on a multiple of earnings (or revenue)
- Discount terminal value by expected ROI to get PV
According to VCM, how do we get the “post-money valuation”?
Post-money valuation =
Terminal value / Anticipated ROI
According to VCM, how do we get the “pre-money valuation”?
Pre-money valuation =
Post-money valuation - investment
List the seven steps to valuing a startup.
- Assess the firm’s current standing
- Estimate revenue growth
- Estimate a sustainable operating margin in stable growth
- Estimate reinvestment to generate growth
- Estimate risk parameters and discount rates.
- Estimate the value of the firm
- Estimate the value of equity and per-share value
Using revenues from the ______________ will provide a much better estimate of value than using earnings from the last financial year. Why?
Trailing twelve months
Because for firms with negative earnings and high growth in revenues, the numbers tend to change dramatically from period to period.
A key component for a young firm to be valuable is the expectation that the _______ ________ , while negative now, will become positive in the future.
Pre-tax operating margin
