9* VENTURE CAPITAL VALUATION METHODS

Learning objectives

Relate venture
capital methods to more formal equity
valuation methods
Understand how valuation and percent ownership are related
Calculate the amount
of shares to be issued to secure a fixed
amount of funding
Understand the impact of subsequent financing rounds on
the structure of the current financing round

*please refer to Chapter 11 in Leach & Melicher (2016)

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9 VENTURE CAPITAL VALUATION METHODS

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9.1 BASIC VC VALUATION METHOD

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9.1 BASIC VC VALUATION METHOD

VC shortcuts: simplified valuation procedures and rules of thumb

Basic VC method: estimates the venture’s value by projecting only a terminal
flow to investors at the exit event and then discounts that value
Modifications of the basic VC method introduce
additional rounds; 가능한 결과

incentive compensation;
possible scenario outcomes (not covered in this course)

VCSCs focus on directly estimating flows to equity (instead of deriving free

cash flows from projected assets and operations)

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9.1 BASIC VC VALUATION METHOD

Example: Lynda Chen (textbook p. 403)

Lynda holds 2,000,000 shares of her company
needs an additional $1m to carry out the business plan, which a VC is willing to
invest
Time to exit for the VC: 5 years
Expected compound annual rate of return: 50%

Estimation of the venture‘s exit value in five years from now

Procedure:
• Obtain price-earnings-ratio from comparable
venture
• Apply it to projected earnings of venture
under review
• Direct comparison method to infer the
venture‘s projected future value

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9.1 BASIC VC VALUATION METHOD

Present value of the venture

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9.1 BASIC VC VALUATION METHOD

Equity ownership pecentage of new investor

Equity ownership that must be given to the new investor in order to get the
deal done amounts to 75.94%

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9.1 BASIC VC VALUATION METHOD

Shares to be issued to new investor

The number of shares that must be issued to the new investor such that she
can achieve her exepected rate of return amounts to approx. 6.3m

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9.1 BASIC VC VALUATION METHOD
Venture Valuation Pie

Price per share given the $1,000,000 external equity

Venture‘s pre- and post-money present value (in t0)…

…and future value (year 5)

Note: the pre-money PV also depends on executing the business plan

including the $ 1m investment.
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9.2 ADJUSTING VCSCs FOR MULTIPLE ROUNDS

Always compare present

values to present values and
future values to future values!

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9.2 ADJUSTING VCSCs FOR MULTIPLE ROUNDS

Equity ownership percentage given to second-round investor

AT end of year 3

Dilution to 8.4%

If additional rounds of financing are needed to achieve year-5 projected

earnings, the accompanying dilution must be considered in the current
묽게 하는 것
round 5년 프로젝트에 필요하다면,

Failure to do so results in investors not receiving an adequate number of

shares to ensure the necessary percent ownership at the time of exit

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9.2 ADJUSTING VCSCs FOR MULTIPLE ROUNDS

Total shares outstanding at terminal value

How many shares must be issued in round 1 and 2, respectively?

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9.3 ADJUSTING VCSCs FOR INCENTIVE OWNERSHIP
Example: Lynda has agreed to set aside 6% of exit-time
ownership for use as incentive compensation
Lynda‘s percent of ownership after accounting for incentive ownership

A replication of the analysis performed before yields:

• External investors protected

against the 6% ownership
dilution, i.e. dilution entirely
borne by Lynda
• Exponential rise in non-founder
shares!
• Crucial for any entrepreneur to
understand the mechanics of
dilution before negotiating any
type of external financing!

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9.3 ADJUSTING VCSCs FOR INCENTIVE OWNERSHIP

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9.3 ADJUSTING VCSCs FOR INCENTIVE OWNERSHIP

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