Valuing Early-Stage Bioscience Companies

Transcription

1 Valuing Early-Stage Bioscience Companies November 17, 2014 Gregory Phipps Managing Director, Investment

2 The Challenge Valuation mix of (black) art & science In start-up/early-stage, valuation exercise more art than science, with heavy dose of negotiation thrown in by the investment source (VC s, angels, etc.) Valuation may be used for both negotiated price for equity investment purposes, Founder/Partner buy-out scenarios (more common than you think), marital dissolutions, and third-party acquisitions Absence of historic, or (often) accurate means to predict future revenues and cash flow, makes it virtually impossible to use traditional models like Discounted Cash Flow (DCF) for most bioscience companies How do we do it then? 2

3 Sources of Funding for Ontario Bioscience Companies Federal & Provincial Government Public Subsidies/Grants Entrepreneurial support programs Contribution agreements Research & development Tax Credits Publicly supported funds Private Industry Angels Venture Capital Strategic Alliances Discovery & Fundamental Research Pre Commercialization Proof of Concept Product Development Commercialization Market Entry SDTC, NRC IRAP, CIHR Grants, CFDC CSBF, Community Futures Loans Programs SDTC, NRC IRAP, Going Global Science/Tech SR&ED Tax Credits, Provincial R&D ITCs BDC VC Funds Growth 3

4 CDN Bioscience Companies CVCA Segmentation Human Biotech Companies: Developers of technology promoting drug development, disease treatment, and a deeper understanding of living organisms. Includes human, animal, and industrial biotechnology products and services. Also included are biosensors, and biotechnology equipment. Other Biotech: For human vs. other biotech, we re looking at the application of the biotechnology, usually either for use in human medicine, or for other processes like industrial, biofuel, agriculture, or veterinary use. Pharmaceutical Companies: The discovery and development of drug, medications, and other pharmacologically active substances for use in the medical diagnosis, cure, treatment, or prevention of disease. Medical Companies: Manufactures and/or sells medical instruments and devices including medical diagnostic equipment, medical therapeutic devices, and other health-related products such as medical monitoring equipment. Source: Canadian Venture Capital Association 4

5 VC Dollars Invested in CDN Bioscience Companies $250 $200 C$ millions $150 $100 $50 $ First Half 2014 Human Biotech Other Biotech Pharmaceuticals Medical Source: Canadian Venture Capital Association 5

6 Alternative Methods to DCF (Simplified) Venture Capital Method First Chicago Method Berkus Method Scorecard Method Comparables Negotiation WAG 6

7 Before We Start: Glossary Pre-Money: the value of a company BEFORE investment Post-Money: the value of a company AFTER investment is received Return On Investment (ROI): the increase in value of an investment divided by the cost of the investment Present Value (PV): value today Terminal Value: anticipated selling price/exit for a company in the future (liquidity event such as M&A or IPO) 7

8 Venture Capital Method (Bill Sahlman, Harvard) Often used to value pre-revenue, early-stage companies Expected exit price/terminal value is estimated, and then one calculates back to the current post-money If we know the value of something in the future and we know what kind of ROI we need to induce us to make an investment, then we figure out its Present Value to us Present Value (PV) = value of a company today 8

9 Venture Capital Method VC Method is used for very early-stage companies Incorporates some elements of Discounted Cash Flow method insomuch that we apply a risk premium (expressed as return/discount/hurdle rate) and are determining PV, but it is based on the future Terminal Value rather than cash flows Terminal Value = anticipated selling price of the company at a point in the future (TBD) ROI is a multiple of invested cash, regardless of the time since investment Assumes no more shares are issued 9

10 Venture Capital Method 1. Forecast future results 2. Determine likely value at that point (ex. look for comparable M&A or IPO transactions) 3. Convert future values back to present values = Post-Money Valuation 4. Share price is determined, includes Employee Stock Ownership Plan (ESOP) Terminal (exit) Value Post-Money valuation = ROI or Post-Money valuation = Terminal Value anticipated ROI 10

11 Venture Capital Method CASE STUDY: A VC is looking at three companies. She is unwilling to invest unless she can obtain an annualized return of 30% from her $1M investment. Medical Device Company A M&A Therapeutics Company B IPO Diagnostics Company C M&A Revenue $22,500,000 $0 $16,000,000 IPO/M&A Value or Multiple 4X Sales IPOs, Phase II, similar pipeline and market size 3X Sales Terminal Value $90,000,000 $135,000,000 $48,000,000 Values and multiples are determined based on current appropriate comparables from recent public or private company transactions. 11

12 Venture Capital Method Company A Company B Company C Terminal Value $90,000,000 $135,000,000 $48,000,000 Post Money = Terminal Value/30 (ROI) Subtract Investment $3,000,000 $4,500,000 $1,600,000 $1,000,000 $1,000,000 $1,000,000 Pre-Money = PV $2,000,000 $3,500,000 $600,000 Price per share will be the Pre-Money Valuation divided by the number of shares outstanding including ESOP that is needed after the financing. 12

13 Venture Capital Method "Venture Capital Method" of Valuation INPUT Amount to Invest $ 1,000,000 Net Income $ 8,000,000 Year 5 Average P/E Ratio of Profitable Comparable Companies 10 Shares Currently Outstanding 9,989,640 Target Rate of Return 50% OUTPUT Discounted Terminal Value $ 10,534,979 Required Percentage Ownership for the VC 9.49% Number of New Shares Required for the VC's Investment 1,047,683 Price per New Share $ 0.95 Implied Pre-money Valuation $ 9,534,979 Implied Post-money Valuation $ 10,534,979 13

14 First Chicago Method First Chicago approach simply does three different projections: Best, Worst and Survival scenarios & assigns probability estimates to each i.e. Success - 30% chance; Failure - 20% chance; and Survival - 50% chance When utilized, the First Chicago method results in a separate valuation for each of the three potential outcomes These are than added and the valuation and pricing is determined Variations are seen often in public company valuations 14

15 First Chicago Method *Fill all Yellow Highlighted Areas Variables Success Sideways Survival Failure Base Revenue: 0.45 (Average of provided data) Revenue growth rate from base: 120.0% 50.0% 5.0% Projected Liquidation Year 5 With Failure: 1 After Tax Profit Margin: 20.0% 7.0% PE Ratio at Liquidity: 15 7 *From Comparables etc. (P/E of 15 is long term historical average Discount Rate: 30.0% *Internal Hurdle Probability of Each Scenario: 30.0% 50.0% 20.0% Investment Amount: 0.5 Calculations Success Sideways Survival Failure Revenue Growth Rate (From Base Of???) Revenue Level After 3 Years Revenue Level After 5 Years Net Income at Liquidity Value of Company At Liquidity PV of Company Using Discount Rate of???? Expected PV Of The Company Under Each Separate Scenario Expected PV Of The Company

16 Berkus Method Dave Berkus noted angel investor, speaker, author Method only really used or accurate for pre-revenue companies Still requires subject evaluation/assessment of key value metrics I have renamed it the Keg Steakhouse Method or A La Carte Menu Method Cast your vote for best name! 16

17 Berkus Method Valuation Metric Cool idea/concept/tech Experienced management Prototype/build = PoC for bioscience Strategic relationships Board of Directors Paying customers/traction (IP for bioscience) Value $.5 million $.5 million $.25 million $.25 million $.25 million <> $.5 - $1 million 17

18 The Keg Steakhouse Method Keg Fries (Management) Mixed vegetables (Productized) Rice Pilaf (Distribution partner) Roasted garlic mashed (Board) Sautéed mushrooms(customers) Twice-baked potato (IP) 18

19 Scorecard Method Not really a valuation method in itself Ranks various factors consider predictors of entrepreneurial success Somewhat subjective but balanced on the whole Best for comparing a number of companies against each other, by type, or by region Company with an avg. product/technology (100% of norm), a strong team (125% of norm) and a large market opportunity (150% of norm). The company can get to positive cash flow with a single angel round of investment (100% of norm). Looking at the strength of the competition in the market, the target is weaker (75% of norm) but early customer feedback on the product is excellent (Other = 100%). The company needs some additional work on building sales channels and partnerships (80% of norm). Using this data, we can complete the following calculation: 19

20 Scorecard Method Comparison factor Range Company Factor Team/Management 30% max 125% Size of Opportunity 25% max 150% Product/Technology 15% max 100% Competition 10% max 75% Sales partnerships 10% max 80% Additional investment 5% max 100% Other factors 5% max 100% SUM 100%

21 Comparables Accurate, reasonable approach to valuation, in the absence of, or willingness, to apply other valuation methods Simply research valuations, of similar companies who have raised equity capital, at same stage, in same region Regional pricing applies. Valuations in Canada are NOT the same as US (Boston, San Fran etc.) We use DowJones VentureSource and PitchBook to research comparable valuations as reported in VC deals Lots of information is private, do your research 21

22 Databases 22

23 Databases 23

24 Databases 24

25 Negotiation Used more often than not Follows traditional, age-old premise of value : what a willing seller and a willing buyer agree upon Can be considered a reasonable foundation value (starting point), on which to apply future/next valuation exercises 25

26 Wild Ass Guess 26

27 Bonus: Venture Capital Math $1 million at a $3 million pre-money valuation leading to a $4 million post money valuation. The math works out that the investor owns 25% of the company post deal ($1 million invested / $4 million valuation) and assuming 1 million shares, each share would be valued at $3 / share ($3,000,000 pre-money / 1 million shares = $3/ share). Investors own 25%, the founders own 75%. But ESOP complicates it, and impacts price/share Assuming a 15% option pool post funding then you need a 20% option pool pre funding (because the pool gets diluted by 25% also when the VC invests their money). So your 100% of the company is down to 80% even before VC funding. The VC s $1 million still buys them 25% of your company it s you who has diluted to 60% ownership rather than 75%. The price/share is actually $2.40 (not $3.00), which is $3,000,000 pre-money/ 1,250,000 shares (because you had to create the 250,000 share options). Thus the true pre-money is only $2.4 million (and not $3 million) because $2.40 per share * 1 million pre-money outstanding shards = $2.4 million 27

28 Thank you! 28