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Venture Capital Valuation: Case Studies and Methodology, + Website

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Venture Capital Valuation: Case Studies and Methodology, + Website

Lorenzo Carver

ISBN: 978-1-118-18233-8 November 2011 288 Pages

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Description

Imagine selling $2 million "worth" of Google stock and only receiving $50 in return? This scenario happens every day for venture-backed companies. Failure to quickly understand high-growth company valuation can cost trillions of dollars. Yet very few leaders involved in a venture-backed company have a definitive understanding of how valuation techniques are being applied to their financial statements and the decision-making process. Featuring extensive case studies of high-profile corporations, including Facebook, Twitter, and Microsoft, Venture Capital Valuation provides the knowledge and techniques necessary to understand and value high-growth companies.

Sharing his twenty-year track record helping thousands of investors, practitioners, and entrepreneurs measure and realize high-growth venture, author Lorenzo Carver draws on real-world cases from investors, founders, and advisors to illustrate how each corporation was impacted by valuations. By putting these techniques into a context and framework, Venture Capital Valuation simplifies them so that anyone founding, running, and investing in these innovative companies can apply them immediately.

Featuring a companion website where readers can access and download additional case study material, as well as different valuation materials mentioned throughout the text, Venture Capital Valuation explores:

  • Why what you don't know about valuation will cost you money
  • How VCs, angels, founders, and employees give up investment cash flow every day
  • Facebook at $80 billion valuation versus Enron at $80 billion valuation
  • Deal terms, waterfalls, and the pre-money myth
  • Whether venture-backed companies should even consider a discounted cash flow (DCF) model
  • Separating enterprise value from the allocation of that value
  • Valuing total equity Using Future Value (FV) and Present Value (PV) to value future cash flows today
  • Why applying the typical DCF model to a venture-backed company hardly ever works
  • "Enterprise Value" + "Allocation Methods" = Value Destruction
  • Undervaluing companies and overvaluing employee options
  • Why you should D.O.W.T. (doubt) venture capital returns
  • 409A valuation professionals discussing topic 820 (FAS 157) with VC CFOs

An invaluable resource for anyone who wants to make the most out of their investments, Venture Capital Valuation shows business appraisers and venture capitalists how to maximize their returns and avoid losing money—before the damage becomes irreparable.

Acknowledgments ix

Introduction

What You Don’t Know About Valuation Will Cost You Money 1

Chapter 1 Using Facebook, Twitter, and LinkedIn to Explain VC Valuation Gains and Losses: How VCs, Angels, Founders, and Employees Give Up Investment Cash Flow Every Day 13

Did Valuation Ignorance Cost ConnectU (and the Winklevosses) $50MM? 14

An Expert Doesn’t Need a 409A Valuation When He or She Has a Certificate and Basic Math 15

Valuing Facebook’s Common Stock Compared to Preferred Stock in Minutes 16

What the Winklevosses Would Have Seen in Any 409A Valuation Report 19

Deriving a Discount for Lack of Marketability for Valuations 27

Facebook at $80 Billion Valuation versus Enron at $80 Billion Valuation 35

Deal Terms, Waterfalls, and the Pre-Money Myth 36

The Pre-Money Myth 44

Summary 56

Chapter 2 Should Venture-Backed Companies Even Consider a DCF Model?: Introducing the Life Science Valuation Case: Zogenix 57

Zogenix: Company Background Summary and Highlights 58

Leaping Forward Just 20 Months, the Company Files for an IPO 64

Order of Valuations Presented in This Case 67

Chapter 3 Valuation Methods versus Allocation Methods Regarding Zogenix 69

Separating Enterprise Value from the Allocation of That Value 69

Valuing Total Equity 72

Using Future Value (FV) and Present Value (PV) to Value Future Cash Flows Today 79

Summary 82

Chapter 4 Applying the Typical DCF Model to a Venture-Backed Company Hardly Ever Works 85

The Gordon Growth Model 85

High Growth Limits the Gordon Growth Model 87

Dividend Irrelevance and Capital Structure Irrelevance 90

Using Comparables (Generally Market Multiples) to Generate a Terminal Value 91

Actual Differences between Angels and VCs versus Perceived Differences 100

Applying Valuation Methods and Allocation Methods at Inception 102

Summary 104

Chapter 5 “Enterprise Value” + “Allocation Methods” = Value Destruction: Undervaluing Companies and Overvaluing Employee Options 107

Most 409A Valuations Undervalue the Company and Simultaneously Overvalue Employee Stock Options 107

Did Auditors Drive Valuators to Overvalue Employee Stock Options? 109

Most 409A Enterprise Value Calculations Ignore the “Takeover” Value of Preferred 113

The Realistic Range of Possibilities Depends on Who the Investors Are 119

Overstating Returns and Understating Returns on the Same Asset (Simultaneously) 125

What Happens to Fund IRRs When You Assume Book Value Equals Market Value? 128

The Real Cost of Fair Value, Fair Market Value, and Enterprise Value 132

Yahoo! Case 137

Chapter 6 Why You Should D.O.W.T. (Doubt) Venture Capital Returns—Option Pool Reserve 159

Unissued Option Pools 159

Value Conclusion Elements Impacted by Option Pool Reserve Assumptions 161

Impact on Parties Relying on Assumptions of VC Investments 176

Chapter 7 If Valuation Can’t Make You Money, Do You Really Need It?: Learning Practical Applications from Kayak.com 183

Applying Studies to Real-World Cases 186

Important Questions to Ask 213

Summary 223

Chapter 8 Don’t Hate the Appraiser (Blame the Auditor Instead) 225

Interview with Jeff Faust, AVA 226

Summary 236

Chapter 9 Don’t Blame the Auditors (Blame the Practice Aid Instead): 409A Valuation Professionals Discussing Topic 820 (FAS 157) with VC CFOs 237

Introduction to the Expert Panelists 238

The Auditor’s Valuation “Bible” 239

SAS101 Tests, PWERMS, and OPMs 240

PWERMS and rNPV/eNPV Models 243

Subjectivity and the PWERM (or “Power”) Method 243

Finding Inputs for the OPM Model 245

Enterprise Values versus Allocations 246

Next Round Pricing and Topic 820 248

Different Ways of Treating Granted, Unvested, and Reserved Options 250

Valuing Warrants in Venture-Backed Companies 252

Quantifying Qualitative Inputs to Value Conclusions for VC-Funded Companies 253

Discounts for Lack of Marketability (DLOM) and Venture-Fund Portfolios 254

Sharespost, SecondMarket as Market Inputs 258

Summary 262

Chapter 10 Now That You Understand Venture Capital Valuation, Share It 263

About the Author 269

Index 271