How do you value Technology companies?
(Monkey, 36
Points)
on 2/9/08 at 6:45pm
I've always been interested in reading about the technology industry but I don't have much expertise on valuing the companies in that industry. Does anyone cover companies in the technology industry? The only thing I can think of is that most technology companies have negative earnings so it might be a better idea so look at multiples like EV/Sales or something. What about solvency ratios, efficiency ratios, profitability ratios? Any information on how to value tech companies would be greatly appreciated.
A lot of it will depend on
A lot of it will depend on what sector they're in as well as their stage in development.
For example, a company that relies on subscriptions for revenues won't necessarily be able to show profit due to accounting measures of their subscriptions since they can't recognize it all upfront so one metric you could use there is the number of new subscriptions. From that, figure out what the attrition rate is and you can get a sense of how the company is doing vs competition.
To value a startup internet company, we might look at metrics like user growth, % conversions to paid programs, reach, page views + visit length, etc.
Other times, it might be as simple as looking to how much it would cost to develop the code - ideas be damned. A lowball valuation we used to acquire a software company recently was to look at the source code and then work backwards to figure out the cost to develop the software had we started from scratch.. we then threw in a liquidity discount pitched that to the management.
As mentioned above, it's
As mentioned above, it's highly dependent on the sector... internet companies are valued completely differently from semiconductor companies, for example. But generally revenue multiples, EBITDA multiples and Free Cash Flow multiples are used, much like anything else. P/E can be a bit less relevant but it really depends on the specific company.
For early stage startups, revenue synergies with a potential acquirer are very important and can be the principal value driver. If they think they can sell a lot of the product, higher value results.
As mentioned above, for Internet companies, registered users, pageviews, conversions, etc. can all be used for valuation.
For subscription companies, Free Cash Flow is often a more relevant metric than EBITDA because cash that is collected upfront but not recorded as revenue will flow through to FCF but not EBITDA. Bookings can also be used in place of revenue.
For hardware companies, gross margin is very important and gross profit multiples can even be used because it's very easy to lose money when your COGS is really high.
Finally, you said "most technology companies have negative earnings..." This is not really the case anymore as the technology has matured significantly. There are numerous buyout shops that acquire profitable, cash-flow positive tech companies and will continue to do so (Silver Lake, Francisco Partners, etc.).
Many people don't realize the extent to which the tech industry has matured. Sure, some sectors such as Internet will have more startups and unprofitable companies, but in general profitable tech companies are valued much like companies in any other industry: pub comps, M&A comps, DCFs, LBO models.
The main thing that makes tech different is that there ARE early stage "hot" companies that can be acquired for what look like ridiculous multiples (e.g. YouTube which went for like 600x revenue).