Chapter 8


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Chapter 8

  1. 1. CHAPTER 8 <br />VALUING & FINANCING AN INTERNET START-UP<br />Explore cash flow, price-earning ratio (P/E), price-earning growth (PEG),& business model based methods in valuing start-up/new company.<br />Financing strategies, different source of financing<br />“You need money to make money”<br />
  2. 2. WHEN TO CASH OUT (WITHDRAW MONEY)<br />DURING FIRM’S LIFE CYCLE : revenue received during business period, can use cash inflow to cover any expenses or cash outflow<br />COLLECTING EARLY: selling equity to gain early profits, the buyer gets a piece of the company usually venture capital, individual investor (rich people), or go through INTIAL PUBLIC OFFERIC (IPO)list your company to MESDAQ the Bursa Saham Malaysia , anyone can buy share & you make money<br />Investment bank that has lots of money & interested in your company<br />
  3. 3. E.G. IPO<br />RICH-RICH COMPANY <br />SDN BHD<br />(SOFTWARE DEVELOPER)<br /><ul><li>Paid up capital RM 50,000
  4. 4. Revenue year 1 RM 40,000
  5. 5. Received Government </li></ul> Contract 5 years ,RM 5million<br /><ul><li>Needs capital, What to do?</li></ul>RICH-RICH COMPANY <br />BHD<br />(SOFTWARE DEVELOPER)<br />OR<br />IPO<br />BANK LOAN<br /><ul><li>Get big fast
  6. 6. Fast growth
  7. 7. Equity shared by people
  8. 8. Public know what's your</li></ul> worth<br /><ul><li>Long term liability
  9. 9. Slow growth
  10. 10. Can keep own company</li></li></ul><li>VALUATION OF A BUSINESS<br />CASH FLOW<br />PRICE-EARNING (P/E)<br />PRICE-EARNINGS GROWTH (PEG)<br />
  11. 11. 1. CASH FLOW<br />Value of a stock, bond or business is determine by the cash inflows & outflows<br />Advantage of internet companies over traditional business is that Internet properties used & improved cash flow<br />Amazon. COM +ve cash flow, holds no inventory thus, –ve operating expenses<br />FREE CASH FLOW-cash from business operation available for distribution to its claim holder, equity investors & debtors-that provide capital.<br />
  12. 12. 2. PRICE-EARNING (P/E) RATIO<br />Reflects investor’s expectation of future earnings<br />Compare with same industry<br />Example pg 147.<br />I’m rich. COM<br />2001<br />Year 2002 earnings $3million<br />Year 2003 process of going public<br />-suggest that issue $5 million shares during IPO<br />Other P/E ratio of same industry firm are 80.<br />What should your share price be?<br />P<br />$0.6<br />P <br />E<br />80<br />$48<br />=<br />=<br />=><br />P<br />=<br />
  13. 13. Shortcoming of P/E ratio<br />Firm can be profitable but have –ve free cash flow<br />There are more than 1 type of earnings, to decide which one to use is not easy<br />Because you are comparing, therefore whether historical earnings are a good predictor of future earnings are questionable.<br />
  14. 14. 3. PRICE-EARNINGS GROWTH (PEG) RATIO<br />Analyze the role of growth<br />Same formula as P/E ration with adjustment to growth<br />P/E<br /> Growth Rate<br />Stock with PEG ratio less than 1.00 are good buys<br />Has limitations/shortcomings<br />Valuable information lost<br />=<br />
  15. 15. VALUATION OF BUSINESS THAT ARE NOT YET PROFITABLE<br />How do you estimate the value of a firm that has –ve earnings?<br />Use this method:<br />Firm & industry Proxies<br />Business Model Approach: Earnings & cash Flow Chain<br />Implications of Market Value for Financing & Investment Strategies<br />
  16. 16. 1. Firm & Business Proxies<br />A firm’s share price is estimated using the P/E ratios of analogs<br />Analyzing a firm based on its industry growth, target market & leader in its category<br />
  17. 17. 2. Business Model Approach: Earnings & cash Flow Chain<br />Turn a firm’s business model for some indications of future earnings potential<br />Technology & internet firm tend to loose money in their early years of operation & gradually gain market & money along the way<br />Its indicator of future profitability are profit margin, market share, revenue growth.<br />Figure 8.2 method used in estimating share price<br />
  18. 18. 3. Implications of Market Value for Financing & Investment Strategies<br />How can one tell is a firm is over valued?<br />Compare P/E ratio of current firm to historical P/E ratios of firm in same industry<br />Check pg 150 example.<br />
  19. 19. INTELLECTUAL CAPITAL: VALUING THE PARTS<br />Intellectual capital: <br />Unpriced physical assets /intangible assets, patent trade secrets<br />Human capital-people that turn assets into products & services<br />Product market position<br />Unique resource or capabilities<br />knowledge<br />
  20. 20. Components of Intellectual capital<br />Intellectual property<br />Human capital-workers<br />Organizational capital-customer value & cultivate more intellectual property<br />
  21. 21. FINANCING A START-UP<br />Internal Sources: Assets & Activity<br />Equity<br />Debt<br />Complementary Assets<br />
  22. 22. 1. Internal Sources: Assets & Activity<br />Firm can use retained earnings<br />Retained earnings = profit that firm makes, net any dividends that paid to shareholders<br />Firm can use existing assets for innovation<br />Hewlett Packard & Apple starts in garages in Silicon Valley<br />
  23. 23. 2. Equity<br />Firm can also issue equity thro’ equity financing-giving equity as share to investors, in return giving the firm capital/management<br />Issued through IPO-popular in 1990’s<br />Venture equity -VC/Venture Capital comes in & finance firm in early stage of company formation by asking for share in the company & sits on its board & gives management advice-seek cash after company becomes IPO, e.g. NETSCAPE,AMAZON.COM e.c.t.<br />Drawbacks of this method- the VC had control over you- usually 51% of the company<br />
  24. 24. 3. Debt <br />Borrow money to finance your company<br />Needs collateral- something to put in before money can be given-banks, financial institution, along<br />Interest payment, major setbacks for star-up companies.<br />Working capital financing- used by AMAZON.COM-smart form of debt financing<br />Malaysian banks.<br />
  25. 25. 4. Complementary Assets<br />Paired assets by strategic alliances with partners<br /> team up with other firm that has assets<br />