As the company explains in its annual report, “These reviews are written by people using Yelp to share their everyday local business experiences, giving voice to consumers and bringing ‘word of mouth’ online.” In 2014, approximately 545 million unique visitors wrote 18 million reviews on 2 million businesses. To demonstrate the valuation process for high-growth companies, let’s walk through an abbreviated, potential valuation of Yelp, a popular online site for reviewing local businesses, using public data about the company. Since most high-growth companies are start-ups, stable economics probably lie at least 10 to 15 years in the future. Next, determine how long hypergrowth will continue before growth stabilizes to normal levels. The future state should be defined and bounded by measures of operating performance, such as customer-penetration rates, average revenue per customer, sustainable margins, and return on invested capital. Then interpolate back to current performance. When valuing high-growth companies, start by thinking about what the industry and company might look like as the company evolves from its current high-growth, uncertain condition to a sustainable, moderate-growth state in the future. They are not meant as a commentary on the current market situation and should not be used as the basis for trading in the shares of any company. The analyses herein are presented as an exercise to illustrate the methodology. ![]() Marc Goedhart, Tim Koller, and David Wessels, Valuation: Measuring and Managing the Value of Companies, sixth edition, Hoboken, NJ: John Wiley & Sons, 2015. What follows is an adaptation of analysis we published in 2015, using public data from 20. Such techniques can help bound and quantify uncertainty, but they will not make it disappear: high-growth companies have volatile stock prices for sound reasons. In addition, since long-term projections are highly uncertain, always value the company under different probability-weighted scenarios of how the market might develop under different conditions. In particular, focus on the potential size of the market and the company’s market share as well as the level of return on capital the company might be able to earn. More important, these shorthand methods can’t account for the unique characteristics of each company in a fast-changing environment, and they provide little insight into what drives valuation.Īlthough the components of high-tech valuation are the same, their order and emphasis differ from the traditional process for established companies: rather than starting with an analysis of the company’s past performance, begin instead by examining the expected long-term development of the company’s markets-and then work backward. The truth is that alternatives, such as price- to-earnings or value-to-sales multiples, are of little use when earnings are negative and when there aren’t good benchmarks for sales multiples. Discounted-cash-flow valuation, though it may sound stodgily old school, works where other methods fail, since the core principles of economics and finance apply even in uncharted territories, such as start-ups. In the search for precise valuations critical to investors, we find that some well-established principles work just fine, even for high-growth companies like tech start-ups. Now, amid signs that the current tech boom is wobbling, even the US Securities and Exchange Commission is getting into the act, announcing in late 2015 its plans to investigate how mutual funds arrive at widely varying valuations of privately held high-tech companies. The rapid rise and sudden collapse of many such stocks at the end of the 20th century raised questions about the sanity of a stock market that appeared to assign higher value to companies the more their losses mounted. For the past several years, investors have once again been piling into shares of companies with fast growth and high uncertainty-especially Internet and related technologies.
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