early-stage company valuation in nz with specific application to equity crowd funding
TRANSCRIPT
Early-Stage Company Valuation in NZ
With Specific Application to Equity Crowd funding
How are Companies Valued (generally)?
Different methods for different contexts
― Discounted Cash Flow• FCFF, FCFE, DDM, EVA etc.
― Comparable Company Multiples• M&A transactions, publicly listed comps, capital raising valuation by similar
firms
― Asset Based• NAV, replacement cost, break-up value
― Previous transaction value• Acquisition price, implied value at capital raised, most recent traded price
Early-stage Company Context
Issues arise when applying traditional methods to early-stage companies
― Discounted Cash Flow• Positive cash flows may be outside of reasonable forecast period
• Very sensitive to discount rate assumptions
― Comparable Company Multiples• M&A comps imply control and/or synergy value
― Publicly listed comps imply lower discount rate (various reasons)• Asset Based
• Does not assess value of future potential, very conservative
― Previous transaction value• May not exist/be available or stale
• May relate to different class of capital e.g. liquidation preference, anti-dilution provisions, or board representation
A quick word on the ‘Venture Capital Method’
A pricing tool rather than a valuation method. Assumes that funding is received.
― Determine the terminal value of the company at the point of exit• Make forecasts for the company’s financials for the holding period
• Assess value using one of the previous valuation methods e.g. 5x EBIT at end of year 5
― Discount the terminal value to date of investment to give the post-money valuation
• e.g. discount back 5 years at 30% compound annual rate
• Adjust for additional future financing rounds if anticipated, base this on cash balances and burn rates over the forecast period
― Subtract the value of investment round to give the pre-money valuation
• e.g. If the post-money valuation from the previous step is $5m, and the forecast is based on the assumption of $1m invested, then the pre-money valuation is $4m.
Discount Rate Selection
Higher risk higher return expectations risk premium on discount rates
― The higher the level of risk associated with the investment, the higher the discount rate must be
― The venture capital method implicitly considers only the exit value in the case of success, rather than the (probability-based) expected case. There are two ways of dealing with this:
• Explicitly consider a number of scenarios at the point of exit and analyse on a probability-weighted basis.
• Increase the discount rate to incorporate an annual probability of failure (with zero residual value). e.g. a 20% discount rate for non-diversifiable risk combined with a 20% annual chance of failure in each of the five years forecast will equate to a combined discount rate of 50%
Where is the risk?
At the shareholder level, require a discount (increase discount rate) for:
― Lack of control – a minority interest in a company does not give meaningful voting rights
― Lack of marketability – the costs and difficulty associated with finding a buyer for your shares
― Liquidity – the costs associated with trading the shares quickly when there isn’t a stable market price
― Information asymmetry – shareholder’s are only legally entitled little more than the annual financial accounts
― Agency problems – incentives of directors and managers are not always aligned with that of shareholders
Some of these issues can be mitigated e.g. by listing on a secondary exchange such as Unlisted or the NZAX.
Where is the risk? contd.
For early-stage and small companies, a further discount may be required for:
― Lack of depth/quality of management including key person risk
― Weak bargaining power with customers/suppliers
― More vulnerable to threat of new entrants, substitutes, industry rivalry
― Lack of established customer base / market validation
― Risk associated with product development
― Revenue concentration risk
― Lack of runway / financial sustainability
For shorthand, companies are often grouped into stages with respect to progress in addressing these factors.
Stages of Company Maturity
Stages of company development are commonly associated with rounds of funding
The differences between stages are not always well-defined, nor does every stage require its own funding round.
Stage New Zealand Venture Investment Fund (NZVIF) Definition
Seed An investee company is at the seed stage of its development if the investment will enabledevelopment, testing and preparation of a product or service to the point where it is feasible to start business operations. Most likely to be pre-revenue.
Start-up An investee company is at the start-up stage of its development if the investment will enableactual business operations to get underway. This includes further development of the company’s product(s) and initial production and marketing. May or may not be pre-revenue.
Early expansion
An investee company is at the early expansion stage of its development if theinvestment provides capital to initiate or expand commercial production and marketing but where the company is normally still cash flow negative.
Expansion An investee company is at the expansion stage of its development if the investment providescapital for the growth and expansion of a company, which may or may not break even or tradeprofitably. Capital may be used to finance increased production capacity, market or productdevelopment, or provide additional working capital.
So what do the Comps Say?
Good data in the early-stage private investment space is notoriously difficult to come by… however the New Zealand Venture Investment Fund (NZVIF) have published summary statistics.
Source: The Valuation of Early-stage Investments in New Zealand, NZVIF, December 2012
Crowd funding Data as Comp
― Crowd funding is still in its infancy in NZ (and globally), dataset is small and the market is yet to mature
― There are possible arguments that a crowd funded capital raise can/should command a higher valuation than from ‘private’ investors
• Validation from crowd funding platform
• Validation from other investors (less due diligence)
• More diversified shareholder base and greater ability to list on a secondary exchange (improved access to future capital)
• Takeovers Code may provide additional protections
• Retail investors may have lower return expectations
Availability of rewards/product discounts
Personal connection with brand
Belief in company mission (impact investing, ethical investment criteria)
Smaller investment universe (unable to access VC/PE funds)
NZ Crowd funding Data
― First offer closed successfully in September 2014
― As at 21 July 2015• 30 offers to date, $11.5m raised
• 20 successful offers
6 fully subscribed (reached max target)
2 offers raised the $2m legal maximum allowable under crowdfunding
• 4 currently open
Including the first company to do a second round of crowdfunding
• 6 failed offers
― Shareholder statistics• Average number of investors per offer – 131
• Average investment size $4,400
NZ Crowd Funding Data contd.
― Industries:• Fast Moving Consumer Goods (FMCG) – 7 (23% of offers)
• Technology: Software & Services – 8 (27% of offers)
• Financial – 4 (13% of offers)
• Others include Energy, Technology Hardware, Hospitality, Consumer Durables, Health Care, Tourism, and a film project
― Rewards/Discounts available• Yes – 17
• No – 13
• Rewards have included permanent discounts for shareholder, free products/services, exlusive or early access to new products, company memorabilia, and exclusive party invites
― Voting shares available• Available to all, with no minimum investment threshold - 17
• Only available to large investments over a specified minimum - 10
• Voting shares not available – 3
Valuation Data – by Stage
― Broadly speaking, crowd funding valuations have been in line with NZVIF’s historic data although early expansion stage companies have tended to have lower valuations, likely due to being earlier stage in their expansions
― Important to note:• Individual outliers present
• Stage classification is subjective
Stage Count Median Average Count Median Average
Seed 3 800,000 1,786,401 69 870,000 1,698,448
Start-up 7 2,400,609 3,644,439 182 2,265,401 4,207,319
Early Expansion 11 5,000,000 4,358,417 59 7,528,758 15,188,035
Overall 21 3,053,478 3,752,993 310 NA 5,738,771
Pre-Money Valuation
Crowd funding - Succeeded NZVIF Data
Valuation Data – FMCG Industry
― Start-up stage FMCG offers have tended to be at lower valuations than NZVIF data whilst early expansion stage offers have been at higher valuations
― Constituents: • Start-up: Pineapple Heads, Angel Food, Sorbet by Ethique
• Early Expansion: Renaissance Brewing, Yeastie Boys, Invivo Wine
Stage Count Median Average Count Median Average
Seed - - - 2 - -
Start-up 3 1,050,000 1,583,783 4 2,500,000 3,290,000
Early Expansion 3 5,000,326 5,500,109 4 3,682,756 3,656,074
Overall 6 3,276,739 3,541,946 10 NA 2,778,430
Pre-Money Valuation - FMCG/Food & Beverage
Crowd funding - Succeeded NZVIF Data
Valuation Data – Software Industry
― Software start-up and early expansion stage companies have had lower valuations than that observed in NZVIF’s historic data
― Constituents: • Seed: Chariot
• Start-up: Parent Interviews,)
• Early Expansion: TRNZ Digital Travel Guides, Sell Shed, Collect
Stage Count Median Average Count Median Average
Seed 1 800,000 800,000 21 500,000 564,700
Start-up 1 1,000,000 1,000,000 76 1,771,913 2,457,594
Early Expansion 3 5,000,000 4,650,372 25 7,200,000 15,622,776
Overall 5 1,000,000 3,150,223 122 NA 4,829,551
Pre-Money Valuation - Software & Services
Crowd funding - Succeeded NZVIF Data
Valuation Data – Failed Offers
― Seed stage companies with offers that failed will likely have related to issues other than valuation. For the start up stage offers that failed, valuation may have been a contributing factor
― Constituents:• Seed: Techvana – The New Zealand Computer Museum, H2Explore
• Start-up: Be Intent Youth, Tapp, Liquid Waste Treament Systems
• Early Expansion: Mad Group
Stage Count Median Average Count Median Average
Seed 2 873,228 873,228 69 870,000 1,698,448
Start-up 3 4,058,169 4,207,535 182 2,265,401 4,207,319
Early Expansion 1 9,800,000 9,800,000 59 7,528,758 15,188,035
Overall 6 4,051,435 4,028,177 310 NA 5,738,771
Pre-Money Valuation
Crowd funding - Failed NZVIF Data
Questions, Comments, Enquiries?
General enquiries:
Lewis Grafton
Analyst
+64 27 4696 433
Media enquiries:
David Wallace
Managing Director
+64 21 419 440
At Armillary Private Capital we have a purpose of enabling success for businesses, business owners and investors.
We are an investment bank providing specialist asset and market place management, corporate finance, advisory and financial training services. We manage the Unlisted unlicensed financial product market.
Armillary is also the manager of CrowdArm Limited (CrowdArm), a licenced crowd funding operator trading as CrowdCube in New Zealand. CrowdArm is 50% owned by Quadriga Acquisitions Limited, a related party to Armillary.
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