VC Valuation
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  • 1. Valuation of Venture Capital DealsRicky Ng
  • 2. What are Venture Capital Investments?Financial capital invested in early stage, high growth new start ups.Stages of investments:Seed: Earliest stage. Company is just an idea.Startup: A prototype exists.Series A: Company is expanding but not profitable.Series B: Company is cash flow positive and scaling.
  • 3. Ingredients for Success. Team Idea Market size Financing
  • 4. Valuation – find future value and work backwards. Investor has $5,000,000 to invest 4 Divide investment amount Exit Value by the ownership percentage required after 1 dilution impact to find minimum post-money Determine exit value valuation 3 Factor in dilution from new rounds and options pool Post-Money 2 Valuation Calculate ownership % at exit needed to satisfy hurdle rate Investor ownership Investor ownership
  • 5. Valuation example. Company projections Year 1 2 3 Earnings 10 million 15 million 20 million Exit Multiple 10x Exit Value 200 million Valuation calculations Investment 5,000,000 Initial investment Hurdle rate 30% Required rate of return Investor exit value 10,985,000 5,000,000 x (1.30)^3 Exit ownership needed 5.49% 10,985,000/200,000,000 Expected dilution 25% Initial ownership needed 7.32% 5.49%/(1-25%) Post-money valuation 68,300,000 5,000,000/7.32% Pre-money valuation 63,300,000 68,300,000 – 5,000,000
  • 6. Dilution modeling and considerations.Company value determines the ownership the investor can attain from the amountinvested.However…An options pool needs to be created to attract key staff and motivate the team,and additional rounds of funding is needed from other investors,which will lead to dilution!!!
  • 7. Dilution modeling – initial equity cap table.Suppose we have an IT company. It has 1,000,000 shares outstanding and owned by the founders Pro Forma Cap Table Start-up Capitalization Common Total % Founders 1,000,000 1,000,000 100.0% Options Granted 0 0.0% Options Available 0 0.0% Investor 1 0 0.0% Investor 2 0 0.0% Investor 3 0 0.0% Total 1,000,000 1,000,000 100.0%
  • 8. Dilution modeling – options pool.A few months later, the founders need to hire professionals and need to create an options pool.Talent needed include:Engineers New Options PoolMarketing managers Pre-MoneyProduct managers   New Options Total %Graphic artistsSales Founders 1,000,000 87.0% Options Granted 0 0.0% Options Available 150,000 150,000 13.0% Investor 1 0 0.0% Investor 2 0 0.0% Investor 3 0 0.0% Total 150,000 1,150,000 100.0% The company issues 150,000 new shares in options. Notice the dilution of 13%!!
  • 9. Dilution modeling – Series A funding.The company’s operations cannot keep up with their success and need to raise money.They need $5,000,000 and agree on a pre-money valuation of $20,000,000 from the VC. Pre-Money $20,000,000 Negotiated Shares outstanding 1,150,000 Founders + Options Price per share $17.39 Pre-money/shares Total $ invested $5,000,000 Investment Post-money valuation $25,000,000 Pre-money + 5,000,000 Date 6/30/2012 From the valuation, share price is calculated as $17.39.
  • 10. Dilution modeling – new equity cap table.   Series A Funding Series A Series A Post-Money FD   Investment Preferred Total % Founders 1,000,000 69.6% 30% Dilution Options Granted 0 0.0% Options Available 150,000 10.4% Investor 1 $5,000,000 287,500 287,500 20.0% Investor 2 $0 0 0 0.0% Investor 3 $0 0 0 0.0% Total $5,000,000 287,500 1,437,500 100.0% New shares issued = Investment amount/Share price = $5,000,000/17.39 = 287,500
  • 11. Dilution modeling – Takeaway. With Venture investments, key points to keep in mind include: 2.Future dilution will impact returns. 3.Dilution will be based on the negotiated valuation of the business.
  • 12. VC Method and WACC. CAPM only considers systematic risk and assumes everything else can be diversified away. Most startups are unlikely to use debt financing.
  • 13. VC Method and APV. APV Method•Startups initially don’t use debt.•Useful for finding later stage valuations or exit value.•Beneficial to use in conjunction with VC method, but not by itself.
  • 14. Conclusion.