Friday, June 19, 2009

Valuing Young Companies

One of the biggest challenges in valuation is valuing a young company, early in its life cycle, especially when that company has not established products. There are six reasons why valuation is difficult under these conditions:
1. No history: At the risk of stating the obvious, young companies have very limited histories. Many of them have only one or two years of data available on operations and financing and some have financials for only a portion of a year, for instance.
2. Small or no revenues, operating losses: The limited history that is available for young companies is rendered even less useful by the fact that there is little operating detail in them. Revenues are small or non-existent for idea companies and the expenses often are associated with getting the business established, rather than generating revenues. In combination, they result in significant operating losses.
3. Dependent on private equity: While there are a few exceptions, young businesses are dependent upon equity from private sources, rather than public markets. At the earlier stages, the equity is provided almost entirely by the founder (and friends and family). As the promise of future success increases, and with it the need for more capital, venture capitalists become a source of equity capital, in return for a share of the ownership in the firm.
4. Many don’t survive: Most young companies don’t survive the test of commercial success and fail. There are several studies that back up this statement, though they vary in the failure rates that they find. A study of 5196 start-ups in Australia found that the annual failure rate was in excess of 9% and that 64% of the businesses failed in a 10-year period. Knaup and Piazza (2005,2008) used data from the Bureau of Labor Statistics Quarterly Census of Employment and Wages (QCEW) to compute survival statistics across firms. This census contains information on more than 8.9 million U.S. businesses in both the public and private sector. Using a seven-year database from 1998 to 2005, the authors concluded that only 44% of all businesses that were founded in 1998 survived at least 4 years and only 31% made it through all seven years.
5. Multiple claims on equity: The repeated forays made by young companies to raise equity does expose equity investors, who invested earlier in the process, to the possibility that their value can be reduced by deals offered to subsequent equity investors. To protect their interests, equity investors in young companies often demand and get protection against this eventuality in the form of first claims on cash flows from operations and in liquidation and with control or veto rights, allowing them to have a say in the firm’s actions. As a result, different equity claims in a young company can vary on many dimensions that can affect their value.
6. Investments are illiquid: Since equity investments in young firms tend to be privately held and in non-standardized units, they are also much more illiquid than investments in their publicly traded counterparts.
In the new edition of my book titled "The Dark Side of Valuation", I have a chapter dedicated to young companies. I have excerpted the section of the book on young companies in this paper:
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1418687
I hope you find it useful.

27 comments:

alveena said...

Thanks. This is interesting. Alveena

evileconboy said...

What is interesting about small business failure is many businesses fail for non-economic reasons, particularly with restaurants. Divorce, lifestyle impact and pure exhaustion are just a few non-economic reasons for failure of restaurants. The chief business owner says "enough" and there goes the business.

ram said...

Goloblization, where big brother china exporting there low cost product. Its' make difficult for young as well as establishing companies to exist firmly in markets.

hermes birkin 40 said...

I just couldn't leave your website before telling you that I truly enjoyed the top quality info you present to your visitors? Will be back again frequently to check up on new posts.

Vibram Five Fingers said...

Barefoot running enthusiasts will probably be delighted to understand that Vibram, makers with the revolutionary "foot glove" made particularly for barefoot running.

korean restaurant said...

I desired to thank you for this exceptional read!! I absolutely enjoyed every single small little bit of it. I’ve you bookmarked your internet site to look at out the new stuff you post.

alpari Ratting said...

It took us three years to build the NeXT computer. If we'd given customers what they said they wanted, we'd have built a computer they'd have been happy with a year after we spoke to them - not something they'd want now.

composiet aanrechtblad said...

Nice to share my love is wonderful to tell you that a healthy green gives you the best Organic vitamins, herbal remedies and organic supplements. They use all natural ingredients to create organic products.
composiet aanrechtblad

plak bh said...

Buy your bra's at our website www.plakbeha.nl. You can buy the best bra's at this website. If you buy, we deliver quick and discreet.BUY
plak bh

Quit Smoking said...

I would like to say thank for sharing this great article. We can’t get this kind of information from
Quit Smoking

klebe bh said...

Attractive info. Thanks, I am really impressed with the quality of what you have provided in your article.
klebe bh

terrazzo werkblad said...

ello there, just became aware of your blog through Google, and found that it's really informative. I'm gonna watch out for brussels. I will appreciate if you continue this in future. Lots of people will be benefited from your writing.

bestessays.co.uk said...

I am visiting your website very first time and your article subject "
"Valuing Young Companies"" caught my intention. Its informative enough. Keep writing like this. Thank you

ttposad11 said...

I am definitely enjoying your website
ttposad11

ttposad11 said...

Der Bye Bra Klebe-BH besteht aus selbstklebender Folie in
Hufeisenform, welche es ermöglicht die Brustwarzen um einige
Zentimeter nach oben zu positionieren
Klebe-BH

Private Equite Fonds said...

I was delighted to find this web site.I wanted to thank you for your time reading this wonderful! I really enjoyed every bit of it and I’ve marked to ensure that the blog post something new.

Anonymous said...

Great to know this information thanks for the sharing :) buy UK dissertation online | write my dissertation UK

alba maria said...

Naše neviditelná podprsenka s okamžitým účinkem je “made in Holland” a vyrobena největším výrobcem náplastí – 3M. Distancujeme se od čínské napodobeniny produktu, která může mít negativní vliv na pokožku. Neviditelnapodprsenka.cz není jen lepící páska, ale průhledná, voděodolná, hypoalergenní lepící páska, kterou jste u jiných výrobců ještě neviděli.
Tuto vysokou kvalitu jsme schopni poskytovat díky naší spolupráci s ByeBra.com. V důsledku spolupráce s 3M se Bye Bra prodává v mnoha zemích a díky vysokému počtu prodaných kusů je Bye Bra schopna poskytovat neviditelné podprsenky za přijatelnou cenu. Jsme pyšní na to, že Vám můžeme doručit tuto mimořádnou kvalitu. Věříme, že existuje mnoho importů, kterým bychom naše prsa nesvěřili a to bylo jedním z důvodů k založení těchto webových stránek.
Proto máme právo se nazývat experty v neviditelných podprsenkách – průhledných, nalepovacích páskách. Pokud máte nějaké dotazy týkající se materiálu, kvality nebo potřebujete pokyny k použití, které naleznete v tomto Bye Bra videu, neváhejte nám zavolat nebo poslat email přes naš kontaktní formulář.
Neviditelná podprsenka
Neviditelných podprsenek
Podprsenka bez raminek

composiet keukenblad said...

This is a very useful post, I was looking for this info. thanks for sharing the great ideas...

Infrastrukturfonds said...

This post is good enough to make somebody understand this amazing thing, and I’m sure everyone will appreciate this interesting things.

keukenblad said...

I have no words to appreciate this post ..... I'm really impressed with this post .... the person who created this post was a big thank you man .. for sharing with us.

graniet keukenblad said...

Advantageously, the article is really the best on this notable topic. I harmonize with your conclusions and will thirstily look forward to your approaching updates

Energiefonds said...

Very efficiently written information. It will be beneficial to anybody who utilizes it, including me. Keep up the good work. For sure i will check out more posts. This site seems to get a good amount of visitors.
Energiefonds

mindfulness said...

I gathered useful information on this point as I am working on a business project. Thank you posting relative information and its now becoming easier to complete this assignment

Immobilienfonds said...

I have found so many interesting thing in your blog and I really love that. Keep up the good work!
Immobilienfonds

Portfoliofonds said...

This article is really interesting to read.
Portfoliofonds

Leasingfonds said...

I really enjoy looking through on this website , it has got superb articles . "The great secret of power is never to will to do more than you can accomplis