Saturday, May 29, 2010

Website value calculators are not appropriate for all website valuations!

There has been a mushrooming of website valuation calculators that purportedly calculate the value of websites. Most algorithms claim that they use a host of freely available information over the web such as back links, page views, rankings and other similar information to calculate the value of your website. Then they also also claim that they "estimate" how much advertising dollars the website will generate on all of its pages and use that as the revenue measure. The issue with such a calculation is that the calculators are applicable only for websites that has advertising as its primary source of revenues. Websites that do not use ads as primary sources of revenues but rather to attract work or as an advertising in itself, which is what most websites are, cannot be valued this way. Over reliance on the use of advertising as the revenue source misleads people into thinking that their websites are valuable when they clearly are not. This also spawns numerous advertising only websites and contributes to plenty of junk redirects out in the Google search space. Upon a deeper look at the "automatic placements" by Google in our AdWords account, we found that 70% of the websites are junk websites solely created for the purpose of advertising redirects. What purpose do these websites serve? This is a main reason why we get a lot of what we call junk clicks. The reason many of these redirecting websites exist is because they are under the false impression that their websites or businesses are valuable based on a stream of Google AdSense dollars. Surely, traffic redirectors cannot be worth as much as traffic from quality websites. But I do not see any differences in CPC between clicks from redirectors and from quality websites. Of course, a click from a well vetted, reputable website is worth several times more than a click from a traffic redirector website that is setup solely for the purpose of capitalizing on the ad commission spread. I am not sure if AdWords can set up algorithms that reward authenticated, respected websites more than the others. Only very discerning customers visit our website and therefore our traffic is low but at the same time, the customers who come on our website are perhaps serious customers and if they click on an ad on our website, the probability of conversion is several times higher than on a redirector website. So, is the value of our website low? That's what the website calculators think and therein lies the problem with the ad model. We need to be paid out a higher cost per click than a redirector website. We qualify prospects better, yet perhaps we do not get rewarded for that. I hope Google introduces a system where quality information is rewarded much more than opportunistic, junk traffic.

Wednesday, May 19, 2010

Too small to cope with 409A regulations? Try Restricted Stock!

One of the things about 409A regulations is that it imposes a valuation requirement on you, which could be expensive depending on the service provider. Not every service provider operates efficiently and only a few like us are able to provide the highest quality at affordable rates. It took a lot of trial and error work, technology utilization and template work to get to this business proposition. If you are a very small founder and your head swims over how to create paperwork for 409A compliance, I recommend you use restricted stock for your employees. Restricted stock is outside 409A requirements and you dont have to get a valuation done to determine the fair market value of the underlying stock at the time of the grant. While restricted stock units are attractive, if you include clauses such as the right to call back the stock, then the position maybe treated akin to an option and may end up falling under 409A. So, make sure you issue a plain vanilla restricted stock. You also attract taxes only when you actually book a capital gain on the stock rather than a possible tax payment right at the time of grant as in an option. There are advantages to issuing an option such as the inexpensive costs that companies have to bear and significant upside, should the stock price go up. But if the stock price went down, you may not have any stock at all, unlike in a restricted stock scenario where your stock is worth something unless it goes to zero. This means that it is important to issue stock options at very early stages of a company's development but the hitch is that it requires significantly more paperwork than restricted stock. Hybrid solutions are possible. Please contact us to learn more.

Are some service providers violating the Independent Appraisal Presumption that is a MUST for a 409A valuation?

When we analyzed some of the service providers out there for 409A valuation services, we have come across some companies that provide 409A valuation services possibly in violation of the independent appraisal presumption. These companies provide other services such as banking, receivables collection, IPO advisory, CFO rental services and similar such services for a fee to privately held companies, yet at the same time provide 409A valuation services. The Independent Appraisal presumption requires the appraiser to have an arms length relationship with the clients and not be affiliated under other business activities. It is important for companies to insist on laying out in the certification that the appraiser works under the "Independent Appraisal" presumption, so as not to have the entire report invalidated by the IRS during an audit.

Tuesday, May 18, 2010

Does Google click for you? Are there link frauds, bid frauds and click frauds?

I have learnt quite a bit from using Google Adwords for my advertising campaign. I have been able to tweak key words  and write blogs that have pushed Accuserve to the #1 result when the keywords "409A valuation", the most relevant keywords for our business, are used in the search engines. My blog results also show up as #1 for that keyword. But here's the problem: Google seems to want me to increase my ad budget to capture all clicks. But the clicks I currently have do not translate into much sales and therefore I have concluded that Google advertising works only for direct business-to-consumer type businesses. Since most business decision makers would go beyond just ads to learn about a company, I believe that for product purchases that require credible decision making, Google Ads may not be that relevant. In my business, if the first 20 clicks do not get me business, I wonder if the next 20 would. Therefore, its not a numbers game for me and increasing the budget to get more clicks. Increasingly, more clicks are being provided by ad placements in targeted websites rather than generic search engine searches. I wonder if the buyers are making their decisions more through credible gate keeping websites than just looking at Google ads directly. In a way this is good for our business as we maintain our credibility by attracting buyers that visit specific gatekeeper websites. The cool thing is that AdWords provides a nice way to target these gatekeeper websites. Managing your brand and reputation is key and it is important where and how your ads are clicked. This has been a key takeaway for us. My advice to businesses that provide services to other business (B2B) is to take a hard look at data. If the first 20 clicks on ads displayed alongside search engines dont get you business, the next 20 most certainly wont. While Google prominently recommends increasing your ad budget, I believe that B2B service providers may not necessarily benefit from that. The right thing, perhaps, to do is build your brand through insightful knowledge conveyed through blogs and making others link more to your site, leading to displaying of your site at the top of the search results, because that's how Google algorithm works. But it appears that the system can still be beat. What if you pay to get a lot of people to link to your site or aggressively promote your links to be embedded within others' contents for a generous payment. Garbage in, Garbage out at action here. While you may get traffic to your site, you'd probably wont get much business out of this junk traffic.
It becomes important to spend your budget in a way that minimizes junk traffic or traffic that dilutes your brand - easier said than done in the way AdWords is setup right now. Many of our keywords' bid prices are going through the roof and I just dont see that much competition in our industry, given the specialized nature of our services. This leads me to question if there are bid frauds as well, aimless junk traffic bidding up the keywords, in return for some payment. Right now, the advertisers seem to be not complaining much, perhaps, because even with junk traffic there are some business returns. But, are your returns from selling your product/service or by becoming part of this junk ecosystem where you participate as well, making Google a commission based enterprise? Some points to ponder, dont you think? Do we want Google to be a positive economic value adder or just a market place where we all keep paying each other to keep generating ad frauds? This reminds me of Wall Street and how artificial returns were created.
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Tuesday, May 4, 2010

The "Take Notice" effect on revenue modeling for start-ups

After completing more than 400 valuation reports including 409A valuations, we have obtained certain heuristic knowledge that we can share for the benefit of the start-up community. In this blog, I want to analyze something called the "Take Notice" effect. We have reviewed business models of so many companies that have almost similar hockey stick type projection of revenues. When we review these models, one question we ask the CFOs and the founders is have you ever considered the effect of companies taking notice of you when you have just become the right size that existing companies get threatened by your business model. After Google greatly disrupted the Madison Avenue business model, most existing companies are on their toes to look out for potential business threats. And they try to mitigate this threat using a variety of tools at their disposal such as lowering prices, lobbying for biased laws, cartelization, hostile acquisitions, hiring away key employees, and increasing the cost of acquiring capital. After analyzing so many companies, we believe the take notice effect is somewhere when your company reaches the $20 million revenue stage for hi-tech companies (Biotechnology companies are different and we'll reserve that discussion for a later blog post). This is the point at which most investors want to commit to further mezzanine rounds and take the companies to a ripe 100 million+ revenues level, a level considered prudent for financial exit. So, when you reach $20 million in revenues, expect competition and a slow down in growth. We call this growth model the hockey stick dip or the heart pulse model. No doubt you will take off in a hockey stick manner but there is bound to be a dip after the stick's peak is reached and then levels out to more acceptable growth rate levels. If you look at your heart rate monitor, you can see that the wave pattern matches what I am talking about. It is important for founders to acknowledge this dip as competition intensifies and to forecast a small dip in revenues or at least a zero growth period with increased spending for some time. This is also a period of transition. Some founders are good at starting up and enjoying the hockey stick growth but not so good at managing a dip caused by the "take notice" effect. This is the time for the founders to assess if they are the right people to be leading the company at this stage.

Do start-ups have to project a growth of 150%+ to get a good valuation?

During one of our 409A valuation analysis and the subsequent sale of the company to a public company (known for bargaining fair valuation multiples), we discovered that the company had been strategically sold for a valuation multiple much higher than the MVIC to Sales or Price to Sales multiples available out there for comparable companies, even industry leaders. This high valuation multiple confirms our assertions:

1. The market for good assets is still good. The asset under question had revenues projected to grow at 35% CAGR over the next two years but become profitable only in 2011.
2. There is a dearth of good quality assets out there. Public companies are still bidding for the right assets.
3. It is important that companies work longer and harder to reach positive revenue stages and an EBITDA break even point that could be almost certainly achieved in 2 or 3 years after the sale.
4. We see a lot of start-ups projecting their 3 or 5-year compounded revenues to grow at very high rates, often running in excess of 150%. Not really necessary to do this. As we can see a 3 year 35% CAGR at a mature revenue stage gets you a good valuation. This company even during its early revenue stages projected only a 76% CAGR for 5 years. At Accuserve, we believe that credible revenue models show maturity in a company's management and leads to much better performance benchmarking, rather than reaching out for outlandish targets.

We hope start-up founders will take note of how business is actually done and how exits are achieved. We are always available to advise on such matters.

Monday, May 3, 2010

What methods are being used for biotechnology valuations?

In March 2009, Sangeeta Puran, Senior Associate, of Mayer Brown International, London, UK completed a study examining the methods used to value drug development programs. The study was conducted by interviewing individuals in the UK for a period of four months from a representative sample of twelve leading industry participants, including small biotech business development, large pharma and large biotech business development, financial analysts and venture capitalists.  Overall, according to the study, most participants tended to only use the more conventional tools of rNPV and comparables, with only a few participants (namely pharma participants) using other methodologies on a regular basis. At Accuserve, we use rNPV extensively for biotechnology valuations and have built a body of models with industry wide stats that help us better approximate drug development times and operating costs incurred in different phases of development. We also have been able to input ODTC offsets and accelerated development time frames to compare and contrast various drug development cycles. Needless to say, this experience comes over a period of time.
Turing to using comparables, during the study, one participant commented that everything was in a bit of a muddle. Another participant opined that prices are being eroded and that there are 3 key factors:
 - the public biotech/pharma market currently has a very low value
 - biotech companies are desperately running out of cash
 - everyone is saying values are slipping and values are slipping
Given this environment, we at Accuserve, strongly recommend that companies use a bidding process to license out their innovations. We believe that good quality assets will still get good prices but the ones at the bottom are probably not going to exchange hands that easily. Generally, even if we get at a fair market value, we have seen that in auction processes the bids invariably end up higher for good quality assets. This is especially true given that there are not very many Phase III projects around. The demand for technologies that can potentially migrate to Phase III is going to remain high.
According to the report: Upfront payments were the most heavily negotiated. Upfront payments typically are negotiated based on comparables. The two things for which data is extensively available out there are upfront fees and so called 'biovalue deal' value, according to the report, Accuserve also has felt the same in that we have more access to upfront payments and biovalue deal data. Needless, to say milestone payments can be inputted into the model by looking at financial statements.
Clearly, the participants were apprehensive about using comparables blindly and wanted to rely on more concrete information such as upfront payments and biovalue deal.
The other methods, in our experience, and according to the report are used in very limited fashion, except by large pharma buyers, who have an army of analysts to throw at the valuation.
In our opinion, rNPV if properly modeled out continues to be an appropriate method to arrive at a fair price for the assets. The caveat here is that in an auction type environment, prices generally tend to get higher than the fair value. 


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Saturday, May 1, 2010

Post the dot com bubble: Silicon Valley job and innovation report

The Bureau of Labor Statistics in its Regional Report dated August 2009 says "Of the 11 industries analyzed in this report, 8 experienced employment declines and 3 industries—pharmaceuticals, aerospace, and scientific research—exhibited employment growth during the 2001 to 2008 period. " The BLS report states that employment in silicon valley declined by 17% in the 2001-2008 period, while the average wages grew approximately 36% in the same time frame. In March 2000, the NASDAQ reached a peak of 5130. But by December 2000, the index had dropped more than 50% to stand below 2500. The employment rate took a big hit and Santa Clara county posted a 7.6% unemployment rate soon. By 2004, however, jobs in the hi-tech sector returned and by 2008, jobs in specific sectors such as Aerospace, Pharmaceuticals, and scientific research had added enough jobs to exceed their pre-recession employment levels. While Silicon Valley's jobs stagnated between 2001 and 2008, nationally, the jobs grew by 4%, according to the BLS report.
Despite this downturn, silicon valley continues to be the hot bed of innovation: in 2008, 11 out of the top 20 cities issuing patents in the Unites Stated were in the Silicon valley.
What about the recent recession, you ask? According to the BLS report, despite the recession that began in December 2007, Silicon Valley high-tech employment grew by 2.5% during 2008; however average wages fell by 1.5% during this period. Further, the BLS states that sample data so far and anecdotal evidence suggests that high-tech employment declined in 2009, perhaps negating the 2008's marginal employment gains. For more information visit US' Bureau of Labor statistics site (
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