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- Value is
always what someone is prepared to
pay.
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- Price may
be determined by other factors such
as the strategic importance of the
technology.
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- Commercialisation
strategies will impact potential cash
flows and likely valuations.
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- Issues relating
to technology life cycle and types
of intellectual protection will impact
the valuation.
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- Costs may
be difficult to predict due to further
development, or due to the differences
between segments and markets.
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Valuing technology, like any other asset, is based on the
present value of expected earnings or future cash flows.
In determining the future earnings or cash flows streams
to be generated, some key issues need to be considered.
These streams need to be identifiable as well as quantifiable.
In some cases, technologies may be bundled together to
form the final product. How do you determine the proportion
to be allocated to a specific technology?
The other issue relates to how long the technology will
last (technology life cycle) and whether it has been protected
in some way (patents, copyright, trade marks).
These issues need to be considered as part of the valuation
process.
The requirement for a technology valuation may arise due
to a number of reasons: establishing a value for capital
raising, responding to unsolicited bids from buyers, entering
collaborative ventures where partners contribute different
assets, or determining compensation for infringement of
intellectual property.
Valuation Methodologies
Several valuation methodologies are available for valuing
technologies, however only the Income (discounted cash flow)
and the Market (comparable values) approaches are discussed.
As with most valuation determinations, it is worthwhile
to crosscheck the results using different valuation approaches.
The Income approach takes into account the timing and the
quantum of cash flows, along with the risk and time value
of money. The basic assumptions are that earlier or less
“risky” cash flows are preferable.
The Market approach, if available, looks at the recent
sale of similar or identical technologies. This may be problematic
where the technology is new or unique and comparisons are
not possible.
Income Approach
The Income approach incorporates amounts related to additional
costs (research and development costs, technical and commercialisation
costs) as well as the expected receipts from sales, royalties
or other forms of commercialisation.
Future costs are generally difficult to predict where the
technology needs further development and the outcome of
that development is uncertain. Costs may also be difficult
to predict where the company is entering new markets or
different geographic regions.
The receipts from sales, royalties or other commercialisation
arrangements may be similarly difficult to predict because
of timing and execution issues.
Quantifying sales and other receipts will require an assessment
of the potential market and likely success of the product.
The key factors that need to be analysed include:
- Industry/Market (Potential growth rates, size and penetration
rates, and industry structure)
- Company (Technical and production efficiency, marketing
and distribution competence)
- Product (Price, Performance and Uniqueness)
The market and product forecasts are integral numbers which
will impact the final valuation.
Estimating market demand (volumes or units), and future
market prices, provides the future market value. Estimating
penetration rates will help determine market share and possible
product sales. Penetration rates need to reflect the likely
adoption rates as well as the estimated duration of the
product's life cycle.
Since technology and product life cycles are shortening,
some realistic assumptions need to be made in relation to
how long the product will be in the market. If the technology
has a life longer than the projection period, some estimate
of its terminal value will also need to be incorporated
into the cash flows.
Commercialisation strategies will impact the potential
sales figures. Is the strategy to sell to the market directly,
or through a distributor, or licence the technology, or
form a joint venture or alliance? The strategy may alternatively
be to sell the technology to another company.
The timing and amounts will vary according to the commercialisation
approach:
- Direct Sale (All revenues retained but costs associated
with marketing, manufacturing and other functions)
- Sale through Distributor (Access to a wider market with
reductions in marketing and sales support costs)
- Licence (Initial Licence fee, with ongoing royalty payments
received. No marketing or sales costs required. The determination
of the royalty rates may involve detailed analysis)
- Joint Venture or Alliance (Access to a wider market
and other capabilities such as manufacturing and/or marketing)
- Sale of Technology (Upfront or progressive payments
received, with no additional costs)
Although the technology may dictate the commercialisation
approach, it is a useful exercise to work through the numbers
for each of the different approaches. The objective is to
maximise the value of the technology.
Once the revenue and cost estimates have been developed,
and the cash flow streams calculated, a discount rate is
applied to the numbers to arrive at the present value of
these streams.
Some valuers, as an additional step, calculate the “expected”
cash flows by applying a probability distribution to the
cash flow numbers. There may a 60% probability for one outcome
and a 40% probability for another.
Determining the discount rate involves working out the
weighted average cost of capital and applying a premium
to reflect the risks (market, technology operational and
financial risks) in bringing the technology or products
to market.
Estimation of the discount rate may involve some subjectivity
and impact the final valuation.
By using a different rate, a different valuation will be
calculated.
Market Based Approach
The technology valuation under this approach is based on
sales of similar technology. Because of the embedded nature
of some technologies in “bundled” products,
it is sometimes difficult to break out the individual components.
The uniqueness or distinctiveness of the technology may
also limit comparisons. The lack of available public information
can also be an issue due to the confidentiality clauses
inserted in sale contracts.
As with all valuations, it comes down to what a buyer is
prepared to pay to acquire or access the technology.
This price may be influenced by strategic considerations
or the bargaining power of the parties. It may also relate
to the uniqueness of the technology or the protection strategies
adopted by the company.
Commercialisation strategies may also impact the valuation
of the technology. Each strategy needs to be valued, and
a decision made as to the best way to maximise value.
For information on business valuations, see the “Valuing
Your Business” and “Valuation
Assuming Future Dilution” articles at this website.
Peter T Gow is the Managing Director of Creative
Capital Pty Limited. He founded Creative Capital to accelerate
the learning skills of entrepreneurial CEO's and develop
their expertise in capital management, business and strategic
planning, cash flow management and market research and analysis.
Peter has over 12 years of experience in working with growth
companies and has been involved in the completion of over
30 financings in the software, manufacturing and medical
areas. His expertise covers company evaluation, strategy
and market analysis, capital raising, transaction structuring,
documentation and completion. Peter has also set up several
venture capital funds for a major financial institution
and appraised a range of venture capital managers.
Creative Capital Pty Limited
Peter T Gow
61 412 235 455
petergow@creativecapital.com.au
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