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What’s It Worth?How Technology Companies are Valued Today
Presented by:Frank G.E. BollmannStandard & Poor’s Corporate Value Consulting
May 18, 2002Soup to Nuts 2002: Advanced Survival Strategies
2
Corporate Value
Consulting
Credit Market
Services
Information
Services
• World’s foremost ratings agency
• Provides risk analysis and ratings on a wide array of credit obligations
– Corporate Credit– Financial Strength– Counterparty– Asset Backed– Mortgage Backed– Municipals
2000 revenues: $1.3 billion5,000 employees, 40 offices worldwide
• Offers a comprehensive portfolio of data, news, evaluations and advisory services on equities and other asset classes
• Products include:– Market Scope– Industry Surveys– Stock Reports– Compustat
• Assists clients in objectively defining, creating and enhancing their value
– Financial Reporting & Tax Valuations
– Corporate Finance Consulting
– Strategic Value Consulting
Standard & Poor’s
3
SanFrancisco
MenloPark
Los Angeles
Dallas Houston
ChicagoDetroit
Boston
New Jersey
Atlanta
New York
Philadelphia
• 12 Offices
• 40 Managing Directors
• 400 Professionals
S&P CVC - A National Valuation Consulting Practice
4
Overview
What is Value?
Valuation Approaches
Alternative Exit Strategies
Maximizing Value
5
What is Value?
Market Value
– Amount at which a property or a business would change hands between a willing seller and a willing buyer, when neither is acting under compulsion, and both have reasonable knowledge of the relevant facts
Investment Value
– The value of business or property to a particular investor based upon their investment return requirements
Intrinsic Value
– The value of business or property based upon an analysis of the underlying fundamental facts
Liquidation Value
– The value of the assets of the business if sold piecemeal (orderly or forced disposition)
Strategic Value
– The value of the business to a strategic buyer, including premiums for synergies and optimal management of assets
Market Value assumes:
Many buyers, many sellers– A market means that
there are numerous buyers and sellers
– In a perfect market no one buyer or seller can affect the price
No abnormal pressure– Market value assumes
that the property or business is exposed to the market for a reasonable period of time Quantity
Demand
Pric
e
Supply
Reasonable knowledge of all the relevant facts– If a buyer or seller is not fully informed, the negotiators may not
make a prudent decision
7
While Market Value can be defined objectively, the actual valuation depends on the market’s enthusiasm
The Fortunes of Six Software Companies
8
Approaches to Quantifying Value
Market Approach
– Use multiple of revenues, earnings, or other performance metrics computed by comparing to actual trading activity (current market valuation) of public companies and recent transactions
Discounted Cash Flow (DCF) Approach
– Future cash flows discounted to the present by some risk-adjusted discount rate (weighted average cost of capital)
Hybrid Approach
– Project future cash flows to value the company at a time in the future when there is the potential for an IPO
Replacement Cost Approach
Book Value Approach
The Market Approach involves comparing the company’s performance to similar publicly traded companies
Market Approach
Indicates the Fair Market Value of the common stock of a business by comparing it to publicly-traded companies in similar lines of business.
Involves: Identifying publicly traded companies that are comparable to the
subject company Calculating standard multiples such as Price/Revenue,
Price/EBITDA, & Price/EBIT Applying multiples to the subject company’s Revenue, EBITDA,
& EBIT to estimate value
Assumes: There are several comparable publicly traded companies Subject company could be publicly traded
If reasonable comparable companies can be identified, the market approach may provide a more reliable indication of value than any other method, because it uses consensus data from many investors, rather than one person’s best estimate.
Challenges of the Market Approach:
Use of market multiples is limited if either subject company or comparables have negative earnings
– Example: Internet Software & Services
– Comparables: Yahoo, ASKJeeves, LookSmart
– All have negative earnings
When comparables have negative earnings (net income, EBIT, EBITDA), Price/EBITDA & Price/EBIT multiples are not meaningful,
thus only the Price/Revenue multiple can be applied.
When comparables have negative earnings (net income, EBIT, EBITDA), Price/EBITDA & Price/EBIT multiples are not meaningful,
thus only the Price/Revenue multiple can be applied.
Mkt Cap as of 5/11/02, Revenues & Earnings as of 3/31/02
Peer GroupStock
SymbolMarket
Cap ($M)Revenue
($M)Earnings
($M)Mkt Cap / Revenues
Yahoo! YHOO 9,198 729.9 -71.4 12.6ASK Jeeves ASKJ 50 63.6 -49.2 0.8LookSmart LOOK 177 92.9 -41.2 1.9
Market Approach – Example
Subject Company InformationDatabase Co – a database software company 2001 revenue = $25 (million) 2001 earnings = $2.5 (million)
Identified Comparable Companies Mkt Cap./Revenues Mkt Cap./EarningsOracle (ORCL) 4.4x 19.1xPervasive Software (PVSW) 1.5x 13.8xProgressive Software (PRGS) 2.0x 32.1xAverage 2.6x 21.7x
Multiple Calculation 2.6 x $25M 21.7 x $2.5M
Implied Value of Database Co $65.8 (million) $54.1 (million)
Indicated Value of Database Co (65.8 + 54.1)/2 = $59.9 (million)
12
Sources of Information on Comparable Publicly Traded Companies
Compustat
10K's - 10Q's
SDC
Analyst Reports
Bloomberg
The Discounted Cash Flow Approach involves projecting the cash flow the company is expected to provide in the future
Discounted Cash Flow “DCF” Approach
The DCF Approach indicates the Fair Market Value of the common stock of a business based on the value of the cash flows that the business can be expected to generate in the future.
Involves: Estimating future cash flows for a certain discrete projection period Discounting the cash flows to present value at a fair rate of return Estimating the residual value of cash flows subsequent to the discrete
projection period Combining the present value of the residual cash flows with the
discrete projection period cash flows
Assumes: Pro-forma forecasts can be made over the projection period
Drawback:Creating pro-forma forecasts over a multi-year projection period can be difficult, because many radical new technologies have unknown potential and quick product life cycles; thus, it is a challenge to reach a consensus on revenue forecasts.
Discounted Cash Flow Calculation 2002 2003 2004 2005 2006 Residual
Available Cash Flow 2.70 4.73 8.27 14.47 25.32 26.59
Present Value Factor (20% Discount rate) 0.944 0.814 0.678 0.565 0.471
Present Value of Available Cash Flow 2.55 3.85 5.61 8.18 11.92
Sum of Present Value of Available Cash Flow $32.1 (million)
Residual Year Free Cash Flow 26.59
Capitalization Rate 15% (20% discount rate – 5% growth rate)
Gross Residual Value 177.27
Present Value Factor 0.471
Present Value of Residual Available Cash Flow $83.5 (million)
Indicated Value of Database Co. 32.1 + 83.5 = $115.6 (million)
Subject Company InformationDatabase Co - an database software company Projected Available Cash Flow in 2002 = $2.7 (million) Projected growth rate of Cash Flow over projection period = 75% Projected growth rate of Cash Flow beyond projection period = 5%
Discounted Cash Flow – Example
15
Discount rates are a major factor in computing the value in the DCF approach
Different methodologies exist for setting the discount rate
Discount rates are used to account for two main factors:
– Time value of money– Risk associated with the investment
In a stable business, discount rates can be computed as the WACC
– Discount Rate = Weighted Average Cost of Capital (WACC)
= Average Cost of Debt & Equity– Example:
Company ABC has a capital structure of 10% debt & 90% equity. After Tax Cost of Debt = 12% Cost of Equity = 25% WACC = 10% x 12% + 90% x 25% = 23.7%
In an emerging business, it may be more appropriate to consider the return an investor expects for the level of risk involved
A hybrid of the DCF and the Market Approach involves valuing the company at a time in the future when there is the potential for an IPO
Hybrid Approach
This approach indicates the Fair Market Value of the common stock of a business based on the value an investor could receive for their investment at the time of an initial pubic offering.
Involves: Estimating how long before the company is in a position to go public Projecting the performance of the company (i.e. revenues and earnings)
at the time the company is ready to go public Calculating current market multiples such as Price/Revenue,
Price/EBITDA, & Price/EBIT Applying multiples to subject company’s projected Revenue, EBITDA,
& EBIT to estimate value Discounting the future estimate of value back to the present at an
appropriate rate
Drawback:As with DCF, a multi-year forecast can be difficult to create.Also assumes that current multiples are good estimates for the future.
The Hybrid Approach assumes the subject company is not ready for a public offering at the current time and thus requires a VC rate of return
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Sta
rtup
Fir
st
Sec
ond
Thi
rd
Fou
rth
Bri
dge
to I
PO
High
Low
Rat
e-of
-Ret
urn
25%
35%30%
40%
30%
50%
35%
50%
60%
70%
40%
50%
Stage of Investment
Venture Capital Rates of Return Goalsfor Each Stage of Investment
Source: QED Report on Venture Capital Financial Analysis
Definitions of stages of company development “Startup” - companies, usually less than a year old, are involved in early
product development and testing. “First stage” - companies are performing market studies, testing
prototypes, and perhaps manufacturing limited amounts of products. “Second stage” - is usually considered to be when financing for initial
expansion is provided. A viable product exists and a market for it has been established. Profits, if any, are not yet meaningful.
“Third stage” - should be experiencing a rapid ramp up in sales. Profit margins should be acceptable but internally generated cash is probably insufficient to meet expansion requirements.
“Fourth stage” - companies should be profitable and growing rapidly. Although capital may still be needed to fuel growth, much of the risk associated with early stage companies has been eliminated. Cash out may be only a year or two away.
“Bridge” or “Mezzanine” - rounds are sometimes done as the cash out time approaches to carry the company to the point that an initial public offering (IPO) can be completed. As a rule of thumb, mezzanine rounds are done within six months of a scheduled IPO.
Hybrid Approach - Example
Subject Company InformationDatabase Co - an database software company Database Co currently a third stage VC investment (50% rate of return) IPO expected Q1 2004 Projected Revenues in 2003 = $50 (million) Projected Earnings in 2003 = $5 (million)
Current Market Multiples Mkt Cap./Revenues Mkt Cap./Earnings(from market approach example) 2.5x 21.7x
Multiple Calculation 2.6 x $50 (million) 21.7 x $5 (million)
Indicated Value of Database Co $131.5 (million) $108.3 (million)
Conclusion of Value for Database Co in 2004 = $119.9 (million)Discount Factor = .5164
Indicated Value of Database Co $61.9 (million)
20
Active management allows the company to minimize risk and optimize value, showing greater potential
Traditional valuation methods consider a single route to value or a few scenarios. – Dismisses uncertainty too quickly– Ignores management’s ability to switch paths
depending on how the future unfolds
Real Options Valuation recognizes that management can learn about and adapt to changing conditions.– Provides a more complete, realistic view of the
future, which often justifies a higher valuation– A dynamic roadmap shows how to manage the
investment – when to kill it, when to accelerate investment, when to go for broke
– 27% of CFO’s “always” or “almost always” incorporate real options when evaluating strategic investment projects*
*Source: Graham and Harvey, “The theory and practice of corporate finance: evidence from the field”, Journal of Financial Economics vol. 60 (2001) pp. 187-243.
21
Alternative Exit Strategies
Options for raising capital include:
– Venture Capital
– Being acquired
– IPO
Market value is based on:
– Willing seller
– Willing buyer
– Neither under compulsion
– Both with knowledge of the relevant facts
The IPO market grew dramatically in 1999 through the first part of 2000, but 2001 saw little activity
Capital Raised and Number of Venture-Backed IPOs, 1997 - 2002
0
1,000
2,000
3,000
4,000
5,000
6,000
7,000
8,000
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1
1997 1998 1999 2000 2001 2002
IPO
Fun
ds R
aise
d ($
Mill
ions
)
0
20
40
60
80
100
120
140
160
Num
ber o
f IPO
s
Total Funds Raised
Software Value
Total Number of IPOs
Software Number of IPOs
Average capital raised in IPOs:
• 1997: $38M
• 1998: $55M
• 1999: $78M
• 2000: $94M
• 2001: $83M
• Q1/02: $86M
Source: VentureOne
Value and Number of Venture-Backed Mergers & Acquisitions, 1997 - 2002
0
5,000
10,000
15,000
20,000
25,000
30,000
35,000
40,000
45,000
50,000
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1
1997 1998 1999 2000 2001 2002
M&
A V
alue
($M
illio
ns)
0
50
100
150
200
250
300
350
400
450
500
Num
ber o
f Dea
ls
Value of Deal
Number of Deals
The number of acquisitions remained fairly steady, showing continued activity at lower prices in 2001
Average value of acquisition:
• 1997: $56M
• 1998: $59M
• 1999: $143M
• 2000: $227M
• 2001: $56M
• Q1/02: $27M
Source: VentureOne
VC Funding and Number of Rounds, Software and Total, 1997 - 2002
0
5,000
10,000
15,000
20,000
25,000
30,000
Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1
1997 1998 1999 2000 2001 2002
Fund
ing
($M
illio
ns)
0
500
1,000
1,500
2,000
2,500
3,000
Num
ber o
f Rou
nds
Total Value
Software Funding Value
Total Number of Rounds
Software Number of Rounds
Venture Capital financing showed a slight decline in both number of deals and valuations
Average value of VC funding round:
• 1997: $5.9M
• 1998: $7.1M
• 1999: $11.0M
• 2000: $15.6M
• 2001: $11.5M
• Q1/02: $10.3M
Source: VentureOne
25
When all else fails, liquidation remains an option…
Internet Shutdowns, Jan 2000 to March 2002
0
10
20
30
40
50
60
70
Jan-00 Apr-00 Jul-00 Oct-00 Jan-01 Apr-01 Jul-01 Oct-01 Jan-02
Num
ber o
f Shu
tdow
ns
26
Value depends on the conditions surrounding the sale
Value as part of a going concern
– This terminology implies the property is to be valued in place as part of the business. This value is alternatively called value-in-use. Value-in-use considers all of the costs involved in putting the property in place including freight, handling, installation, testing and debugging. It may also include turnkey costs or the entrepreneurial effort to manage the above process.
Value as part of an assemblage
– This terminology considers that assembled assets not currently in production may have a greater value than if liquidated piecemeal.
Value as part of an orderly liquidation
– If there is no opportunity to sell the assets on an assembled basis then this premise would assume piecemeal sale which would negate asset incorporation costs.
Value as part of a forced liquidation
– If the assets must be sold piecemeal and if there will be less than normal exposure to the market, then this premise is appropriate.
27
Strategic value is the value of the business to a specific buyer, including premiums for synergies
Ideal Price
Negotiation Range Cash Equity (including option) Earn-outs Technology / know-how Other options Other considerations
Walk-Away Price
TheirNegotiationRange
Walk-Away Price
Ideal Price
OurNegotiationRange
$$$
$
$$$
$
28
Maximizing Value
External Factors:
– Industry Attractiveness
– IPO Window
Internal Factors:
– Clearly defined strategy
– Right management
– Critical mass – roll-ups, & acquisitions
– Historic success
– Appropriate compensation system to attract and retain valuable employees
– Effective information system
– Business advisors – Legal Counsel, Investment Bank and Auditor
Other, more qualitative measures still drive much of the valuation for early-stage companies
Patronage – Valuation is influenced by the relationships and reputation a company develops with partners, customers, and the marketplace in general (example: Internet company’s stock price jumps when they are “legitimized” through the announcement of a relationship with an industry leader like Microsoft or Intel).
Employees – The value of a software company is more than ever represented in the intellectual capacity, creativity, and energy of its employees. As many companies downsize, “reengineer”, cut benefits, demand more creativity, and shift programming jobs overseas, the motivation for the best and brightest programmers will be entrepreneurial motivation.
Flexibility – Speed, creativity, and the ability to customize increasingly are valued over efficiency
30
Conclusions
“Value is in the eye of the beholder”
The bar to IPO has been raised
M&A deals may be easier, since you deal with an educated audience only
Investors of all kinds demand solid fundamentals
– No more “exotic” multiples
– Focus on income and revenue
The gap between traditional valuation approaches and the market is closing
31
Contact Information
Frank G. E. Bollmann Glen N. KernickDirector Director
Phone (650) 688 8668 Phone (650) 688 8673
[email protected] [email protected]
Standard & Poor’s Corporate Value Consulting
68 Willow RoadMenlo Park, CA 94025
32
Additional Detail on S&P CVC
Background on Standard & Poor’s CVC
Overview of CVC Services
33
• School Education Group
• Higher Education,
Professional and International Group
• Business-to-Business Group
• Broadcasting Group
• Credit Market Services
• Information Services
• Corporate Value Consulting
Standard & Poor’sMcGraw-Hill
Education
Information &
Media Services
14,000 employees, 300 offices, 33 countries 2000 revenues: $4.3 billion
The McGraw-Hill Companies
34
Corporate Value
Consulting
Credit Market
Services
Information
Services
• World’s foremost ratings agency
• Provides risk analysis and ratings on a wide array of credit obligations
– Corporate Credit– Financial Strength– Counterparty– Asset Backed– Mortgage Backed– Municipals
2000 revenues: $1.3 billion5,000 employees, 40 offices worldwide
• Offers a comprehensive portfolio of data, news, evaluations and advisory services on equities and other asset classes
• Products include:– Market Scope– Industry Surveys– Stock Reports– Compustat
• Assists clients in objectively defining, creating and enhancing their value
– Financial Reporting & Tax Valuations
– Corporate Finance Consulting
– Strategic Value Consulting
Standard & Poor’s
35
Standard & Poor’s Corporate Value Consulting (“CVC”)
Largest valuation consulting practice globally, with ~400 professionals
Provides strategic investment and valuation advice to senior management using state-of-the-art analytical methods and organizational processes
Analysis and valuation advice supports merger & acquisition decisions, product development and marketing strategy, technology investment, capital allocation, financial planning and financial reporting
Corporate Finance Consulting
Strategic Value
Consulting
Financial Reporting & Tax Valuations
Standard & Poor’s was established in 1860 to provide independent insight, analysis and information to help investors determine value in the marketplace
Corporate Value Consulting (CVC) assists clients in objectively defining, creating and enhancing their value,advising clients on valuation and corporate finance issues for over 30 years CVC Services
36
CVC’s history and organization An independent valuation consulting business divested from U.S.
PricewaterhouseCoopers in concurrence with SEC “No Action” letter
Organized around key industry segments to provide clients with both deep financial analytical skills as well as industry expertise
– Technology, Information, Communications & Entertainment (“TICE”)– Consumer and Industrial Products– Financial Services– Integrated Healthcare– Energy – Automotive
Our professionals– Backgrounds in accounting, applied mathematics, business,
decision analysis, economics, finance, management science, engineering, and statistics
– A majority with advanced degrees and certifications, including CFA’s, CPA’s, etc.
37
SanFrancisco
MenloPark
Los Angeles
Dallas Houston
ChicagoDetroit
Boston
New Jersey
Atlanta
New York
Philadelphia
• 12 Offices
• 40 Managing Directors
• 400 Professionals
S&P CVC - A National Valuation Consulting Practice
38
Overview of CVC Products/Services
Financial Reporting/Tax Valuation
Purchase Price Allocations Goodwill &
Long-lived Asset Impairment IPR&D Valuation Equity/Option Valuation Derivative Valuation Corporate Restructuring Valuation Intellectual Property
– Valuation and Management– Royalty Rate Determination
Valuation of Non-Compete Agreements
Fixed Asset Valuation– PPA– Interest Allocation Valuation– Cost Segregation – Asset Records Reconciliation– Leasing
Corporate Finance Consulting Business Valuations M&A Advisory Fairness Opinions Strategic & Financial Alternatives Capital Structure Analysis Financial Modeling/Scenario Analysis
Applied Decision Analysis –Strategic Value Consulting Real Option Valuation/
Dynamic Business Models Business Case Revenue Review Market Strategy Advisor Capital Allocation Advisor Transaction Value Advisor E-Business Investment Advisor
39
Financial Reporting and Tax Valuations
CVC offers a broad range of valuation services to meet the most sophisticated financial reporting, tax and regulatory needs
Purchase Price Allocations (FAS 141)
Goodwill & Long-Lived Asset Impairment Analyses (FAS 142/121)
In-Process Research & Development (FAS 86 and Others)
Employee Stock Option Valuations (FAS 123)
Derivative Securities Valuation (FAS 133)
Fixed Asset Valuations
Intellectual Property/Asset Management
40
Corporate Finance Consulting
CVC provides clients with objective, ongoing advisoryassistance related to major corporate finance issues
Business Valuations
Fairness Opinions
Strategic and Financial Alternatives Consulting
Financial Modeling/Scenario Analyses
Merger & Acquisition Advisory
41
Applied Decision Analysis (ADA) –Strategic Value Consulting
ADA professionals help companies maximize the value of theirtheir strategic investments – from R&D, to acquisitions Real Options Analysis
– Develop a dynamic roadmap that shows how to manage an investment – when to kill it, when to accelerate investment, when to go for broke
Market Strategy Advisor– Provide accurate customer models that help clients maximize the return on
their product development investments
Business Case Revenue Review– Improve the credibility of revenue forecasts
Capital Allocation Advisor– Help clients allocate capital or constrained resources for across competing
company needs (e.g. R&D portfolios or e-business initiatives), prioritizing, valuing and managing initiatives to maximize value
Transaction Value Advisor– Deliver the insight and management roadmaps that clients need to confidently
pursue deal-making opportunities, and to know when to walk away
42
CVC provides a full range of service offerings to support partnering and transaction decisions
Transaction Services
Valuation Consulting and Financial Modeling
Negotiation Support
License-In, License-Out Support
M&A Advisory: Buy-Side and Sell-Side Transaction Support
Bidding Strategy
Capital Structure Analysis
Royalty Rate Analysis
RFP Support
IP Valuation (patents, trademarks, copyrights, trade secrets)
Fairness Opinions
43
What distinguishes CVC?
Breadth of service capabilities
PwC heritage-superior knowledge of accounting and tax rules
Industry expertise
Thought leadership on valuation and corporate finance issues
Scale
– Largest valuation practice in U.S.
– Professionals with diverse backgrounds, experiences and skill-sets
– Rapid mobilization of resources (local delivery through 12 offices in key U.S. cities, and access to S&P global network)
Access to S&P information services (research and analysts)
44
Selected Clients
45
Additional CVC Technology Clients
– Acuson
– Adaptec
– AirTouch Communications
– AltaVista
– Amazon.Com
– Apple
– Ariba
– Atmel
– AT&T
– Broadcast.com
– Cisco Systems
– CMP Media
– Compaq Computer
– Creative Technology
– Cypress Semiconductor
– Documentum
– Ericsson
– Excite@Home
– Polycom
– Prodigy
– Qualcomm
– Quantum
– Redback Networks
– SAIC – Bellcore Research
– Seagate Technology
– Siebel Systems
– Sony Electronics
– Sun Microsystems
– TCI
– Telstra Corporation
– The Walt Disney Company
– Thomson Multimedia
– Vignette
– VLSI Technology
– Xerox
– Yahoo
– Hewlett-Packard
– Hyperion Solutions
– IBM
– Informix
– Infoseek
– JDS Uniphase
– Kana Communications
– Lantronix
– Leap Wireless International
– Lucent Technologies
– Micron Technology, Inc.
– Microsoft Corporation
– Miller Freeman, Inc.
– Network Associates
– Nortel Networks
– Nokia
– OpenTV
– PC-Tel, Inc
46
Contact Information
Frank G. E. Bollmann Glen N. KernickDirector Director
Phone (650) 688 8668 Phone (650) 688 8673
[email protected] [email protected]
Standard & Poor’s Corporate Value Consulting
68 Willow RoadMenlo Park, CA 94025
