When investors decide to invest in startup companies,
one of the most frequently asked questions is how they value a startup. What
investors look for, among other things, when investing in start ups, is that the
entrepreneur knows the market, how the product solves needs, and why customers
will buy it. They are looking for a track record and experience, competency
within management team, and realistic financials.
In order for investors to invest in start ups they must
know the value for the company. There are many well-known valuations available,
but the biggest determinant to value a startup are the market forces of the
industry and sector the company is operating in. The current value of the
company is dictated by the market’s perception today, and today’s perception of
what the future value will be. If the company is operating within an industry
where the market is depressed and the outlook is not looking promising, the
investor’s perception or willingness to pay for the company’s equity will be
diminished.
So when an investor is in the early stages and is
trying to determine if it is wise to invest, what the investor is actually
looking for is what the likely exit size will be for the company. To explain
the exit size, it is a method by which investors or entrepreneurs intend to
exit their investment in a company. This is how they get rich. Entrepreneurs
and venture capitalists (investors) develop an exit strategy while the company
is in the growth stage. Common methods are an IPO or buyout from another
company.
According to “Global venture capital insights and trends
2014”, the exit environment in 2013 was marked by a decrease in the number of,
and amount raised from venture capital backed IPO’s. In 2011 $21.9 billion was
raised and 164 IPO’s; in 2012 $16.1 billion raised and 114 IPO’s, and during
2013 $11 billion and 108 IPO’s.
Global venture capital – backed mergers and acquisitions,
according to the same source was as follows: in 2012 there were deals worth
$162.9 billion with 698 number of transactions, while in 2013 $398.3 billion
worth of deal values, and 636 number of transactions. In 2013 the US continues
to be the number one most active market for venture backed IPO’s. The number of
deals rose 50% to 74, according to the same above referenced source, with the bio-pharmaceuticals being the leading sector. The amount raised fell 27% to $8.2
billion. Another interesting data is that US companies that decided to go
public have recorded strong returns. The average first day listing in 2013 was
29.7% while by February 2014, average returns were 69.9%.
In Europe, the second venture capital investment
region, the invested capital was $7.4 billion in 2013, while that for the US,
$33.1 billion. The venture capital industry’s main objective is to raise money
and make money for investors, In order to generate the best returns, making the
right sector decision is vital. The most favorite sectors to invest in globally
are consumer services and information technology.
Consumer services have an interconnection with
consumers, thus they offer quick feedback as to whether the investment will pay
back. As for the information technology sector, in 2013 they had the lead in
the US, Canada and Israel with 1173 deals. Software and consumer information
dominated in all markets, with software gaining 70% of the total deals in this
category sector.
Venture capital investment in consumer services
dominated Europe in 2013, as well as China and India. It accounted for 50%
share in each country, while in Europe by 28%. Health care, like life sciences,
was another sector that of preference that dominated the list of venture
capital investments, as well as medical devices and biotechnology.
Finally the role of governments is crucial and they
are playing an important role in creating the right funding environment for
entrepreneurial and start ups. According to “EY G20 Entrepreneurship
Barometer 2013”, access to funding for entrepreneurs is where improvements
should be made, and they find it difficult to obtain. They feel that culture
improvement is needed to be understood by the G20 countries, in that entrepreneurs
create jobs. Tax and regulation should be improved even though many G20
countries have low corporate income tax, with the US leading in this area. Only
15% said, of the G20 countries had a friendly culture environment for venture
capitals. In countries such as France, South Korea and Australia, there is
education and public interest for entrepreneurs as well as training in start ups. In the same source, they say that after bank financing, the second
source of seed money is government funding. On the next article I will discuss
sources and types of financing for venture capital.
Programs designed to support successful start ups like
networks, mentors and incubators are sponsored in developing G20 counties such
as Russia, Indonesia, Mexico and Brazil. Incubators are an organization that
helps develop early stage companies, in exchange for equity in the company.
Companies get help in things like building their management team, setting
strategy for growth, etc. According to the above referenced source, these
efforts have a positive implication in Russia, where ¼ entrepreneurs said that
having access to incubators helped them.
Bill T. Alexandratos
Billnyc60@gmail.com
