[stm_quote box_color=”custom” quote=”“The main problem lies in the fact that there are conflicting objectives between entrepreneur and investor. The investor is interested in obtaining at the highest possible discount, while the entrepreneur is aware of their position of disadvantage and knows they risk selling their company cheaply today“” image=”1941″ author_name=”Andrea Bonabello” author_status=”CFO at BizPlace” box_color_custom=”#ffffff”]

BizPlace Valuation Model

The goal of our team is to present an innovative newcos valuation model (The BizPlace model) that is solid from a theoretical perspective (therefore less affected by the arbitrariness of assumptions or theoretical bias when applied), as well as being able to correctly represent a fair company valuation when applied to real investment cases in different sectors and in different growth stages, while taking into account the different perspectives of entrepreneur and investor.

The problems

[stm_icon_box icon=”fa fa-clock-o” icon_size=”22″ icon_color=”custom” title=”No History” icon_color_custom=”#082f60″]The first problem was related to the difficulties of drawing up a credible business plan due to the absence of the historical performance of the company.[/stm_icon_box][stm_icon_box icon=”fa fa-handshake-o” icon_size=”22″ icon_color=”custom” title=”Dependency upon private equity” icon_color_custom=”#082f60″]The under-diversification which characterizes almost every young company’s equity investor, especially in their first years of activity.[/stm_icon_box][stm_icon_box icon=”stm-line-graph6″ icon_size=”22″ icon_color=”custom” title=”Multiples claims on equity” icon_color_custom=”#082f60″]To protect their interests, VC investors demand and obtain protection against dilution eventuality in the form of first claims on free cash flows from operations and liquidation.[/stm_icon_box][stm_icon_box icon=”stm-stn14_home” icon_size=”22″ icon_color=”custom” title=”Market conditions” icon_color_custom=”#082f60″]Tax system,  propensity for innovation, number of technological “early adopters” and the active presence or not of the State in the investments, are the determining factors for venture capital.[/stm_icon_box]
[stm_icon_box icon=”stm-stm14_manufacturing” icon_size=”22″ icon_color=”custom” title=”Small or no revenue, operating losses” icon_color_custom=”#082f60″]The fact that the financial statements of start-ups show little or no income and negative profits makes the valuation models based on comparable meaningless.[/stm_icon_box][stm_icon_box icon=”stm-branch” icon_size=”22″ icon_color=”custom” title=”Many do not survive” icon_color_custom=”#082f60″]The uncertainty linked with start-ups’ survival makes it difficult to establish whether the firm analyzed will ever become a stable growth entity.[/stm_icon_box][stm_icon_box icon=”stm-stm14_country” icon_size=”22″ icon_color=”custom” title=”Investments are illiquid” icon_color_custom=”#082f60″]Equity owners in a start-up are private investors and the shares they own are usually held in non-standardized units implies that those shares are much more illiquid.[/stm_icon_box][stm_icon_box icon=”stm-quote2″ icon_size=”22″ icon_color=”custom” title=”Information asymmetry” icon_color_custom=”#082f60″]Independent due diligence in this context become fundamental to mitigate information asymmetry, especially for those companies that do not yet have certified financial statements.[/stm_icon_box]

Our solution

The BizPlace model aims to determine a “fair valuation” that mediates between two naturally conflicting positions: on the one hand, that of the entrepreneur and the characteristics of their business and on the other hand, the one of the investor with their own prerogatives and performance targets.

The first step is the identification of the business growth drivers, i.e. the elements characterizing the company’s scalability.

The second step is the determination of the metrics that influence these drivers, for example the CPA and the CPC. The latter can be the result of market tests carried out by the company, historical averages observed in the months of activity or researches and studies on competitors. These metrics are then used to make a projection of the financial results of the company in 5 or 7 years depending on which is its most likely exit horizon (5 years in the case of M&A; 7 years in the case of IPO).

The prospective results determined by this projection (in particular revenues and EBITDA), expression of a “best case scenario“, are then used to determine the “forecasted Terminal Value” of the company through the study of sector multiples and a selection of comparable companies (filtered by belonging to the business of the start-up, growth rate of revenues and market size).

The next steps are to discount the value thus determined for certain factors such as: the illiquidity of the company, the impact of a hypothetical loss of a key team member on the business, distance from the average margins of the sector, and convert this value from “Enterprise Value” to “Equity Value” (Equity Value = Enterprise Value + Cash and Marketable Securities – Outstanding Debts).

Finally, in order to correctly represent the prospective value of the company analyzed, this value must be transformed from a “forecasted” to an “expected” value, weighing it on the expected probability of venture capital investors to obtain the amount invested according to the geographical areas in which they operate rather than the sectors in which they invest (based on a study of the European Investment Fund, “Prencipe 2017” on a sample of more than 2700
international start-ups financed by operators in the VC sector).

The output is the expected prospective value of the project analyzed, which will then be adjusted by a dilution factor (or “divergence”), which makes it possible to determine the expected percentage of equity due to the investor following future investment rounds, and discounted at the present time at the company’s total cost of equity (Tot. Ke = Risk free rate + Total Beta levered * Equity Risk Premium) appropriately calculated to include the specific risk of the company and not only the systemic market risk.

The value thus determined represents the company’s post-money valuation. The pre-money is simply the difference between the post-money valuation and the investment request (e.g. postmoney valuation = € 2.5 million; funding need = € 500K; pre-money valuation = € 2.0 million).

bizplace valuation model

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