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CHAPTER 11
VENTURE CAPITAL VALUATION METHODS
True–False Questions
F. 1. The venture capital valuation method estimates the venture’s value by
projecting both intermediate and terminal/exit flows to investors.
flows or to find an acquirer for the venture.
contributed in the first venture capital round.
F. 4. A direct application of the earnings-per-share ratio to venture earnings is
known as the direct comparison valuation method.
rate implied by a comparable ratio is known as direct capitalization.
accompanying dilution in order to meet projected earnings will result in the
investor’s not receiving an adequate number of shares to ensure the required
percent ownership at the time of exit.
T. 7. Almost without exception, professional venture investors demand that some
equity or deferred equity compensation be structured into any valuation.
will still receive first claims on the venture’s net worth at exit time.
investment using only the business plan’s explicit forecasts, discounting it at a
bank loan interest factor.
F. 10. The internal rate of return is the simple (non-compounded) interest rate
that equates the present value of the cash inflows received with the initial
investment.
terminal/exit flows to all the venture’s owners.
terminal/exit flows to founders.
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T. 13. Post-money valuation of a venture is the pre-money valuation plus money
injected by new investors.
all at one time.
founders and the investors currently seeking to invest.
F. 16. The capitalization rate is the sum of the discount rate and the growth rate
of the cash flow in the terminal value period.
equates the present value of the cash inflows received with the initial
investment.
usually be lower than the discount rate that would be applied to the business
plan cash flows.
F. 19. All of the scenarios in a multiple scenario analysis must have exit cash
flows in the same year.
rate across scenarios.
different scenarios, as well as their probabilities, into the valuation process.
T. 22. The alternative to a “utopian” venture valuation approach is a “mean”
venture valuation approach which considers that two or more outcomes could
occur.
outcomes that are summed to get an expected present value for the venture.
Note: The following TF questions relate to Learning Supplements 11A and 11B:
earnings are paid out in the form of dividends.
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the Delayed Dividend Approximation (DDA).
not assess capital charges for idle cash.
T. 5. For the typical business plan having current and early cash outflows and
later-stage cash inflows, the VCSC and DDA methods will typically give
lower valuations than the MDM and PDM.
later-stage cash inflows, the VSCS will give a higher valuation than the DDA.
T. 8. The DDA and VCSC methods give the same valuation.
Multiple-Choice Questions
a. venture’s ability to generate cash flows
b. ability to convince an acquirer to buy the firm
c. the amount of its short-term liabilities
d. both a and b
e. all of the above
venture investor’s target return, one must consider the:
a. cash investment today and the cash return at exit multiplied by the
venture investor’s target return, then divide today’s cash investment by
the venture’s NPV
b. cash investment today and the cash return at exit discounted by the
venture investor’s target return, then divide today’s cash investment by
the venture’s NPV
c. cash investment today and the cash return at exit multiplied by the
venture investor’s target return, then divide today’s cash investment by
the venture’s NPV
d. cash investment today and the cash return at exit discounted by the
venture investor’s target return, then multiply today’s cash investment
by the venture’s NPV
new equity issue is known as?
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a. pre-money valuation
b. post money valuation
c. staged financing
d. the capitalization rate
equity issue is known as?
a. pre-money valuation
b. post money valuation
c. staged financing
d . the capitalization rate
known as?
a. pre-money valuation
b. post money valuation
c. staged financing
d. the capitalization rate
[Note: Use the following information for Problems 6 through 11.]
A potential investor is seeking to invest $500,000 in a venture, which currently
has 1,000,000 million shares held by its founders, and is targeting a 50% return
five years from now. The venture is expected to produce half a million dollars
in income per year at year 5. It is known that a similar venture recently
produced $1,000,000 in income and sold shares to the public for $10,000,000.
provide the venture investor’s target return?
a. 33.33%
b. 75.94%
c. 12.76%
d. 15.00%
order for the investor to earn his target return?
a. 3,156,276
b. 1,578,138
c. 4,156,276
d. 2,578,138
a. $0.1939
b. $0.1203
c. $0.3168
Chapter 11: Venture Capital Valuation Methods
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d. $0.1584
a. $120,300
b. $316,800
c. $158,400
d. $193,900
a. $658,354
b. $499,954
c. $408,377
d. $249,977
a. $500,000
b. $5,000,000
c. $1,000,000
d. $100,000
having an equity component in employee compensation?
a. the expected deferred and tax-preferred compensation allows the
venture to pay a lower current compensation to employees
b. as a way to motivate employees to strive for the same goal of high
equity value
c. because any dividends received as part of the equity compensation
reduces taxable income
d. both a and b
e. all of the above
venture’s wealth?
a. banks giving loans to the venture
b. convertible debt holders of the venture
c. initial equity investors of the venture
d. participating preferred equity holders
followed by expected mean cash flows at the end of the first, second, and third
years of $40,000, $40,000, and $35,000. What is the internal rate of return?
a. 13.9%
b. 14.7%
c. 16.2%
Chapter 11: Venture Capital Valuation Methods
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d. 17.2%
e. 19.2%
a. price/expectations multiple
b. price/earnings multiple
c. profit/EBIT multiple
d. profit/earnings multiple
e. price/EBITDA multiple
information: stock price of a comparable firm = $20.00; net income of a
comparable firm = $20,000; number of shares outstanding for the comparable
firm = 10,000; and earnings per share for the target firm = $3.00.
a. $10.00
b. $20.00
c. $30.00
d. $40.00
e. $50.00
information: total market value (or capitalization value) of a comparable firm
= $200,000; net income of a comparable firm = $40,000; number of shares
outstanding for the comparable firm = 20,000; net income for the target firm =
$15,000; and number of shares outstanding for the target firm = 10,000.
a. $5.00
b. $7.50
c. $10.00
d. $12.50
e. $15.00
following information: value of target firm = $4,000,000; net income of target
firm = $200,000; and net income of “comparable” firm = $500,000.
a. $4 million
b. $7.5 million
c. $10 million
d. $12.5 million
e. $15 million
information: value of target firm = $4,000,000; net income of target firm =
$200,000; stock price of “comparable” firm = $30.00; and 300,000 shares of
stock outstanding for the comparable firm.
a. $450,000
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b. $500,000
c. $550,000
d. $600,000
e. $700,000
expected to be $40,000 at the end of four years from now. A comparable firm
currently has a stock price of $20.00 per shares; 100,000 shares outstanding;
and net income of $50,000.
a. $1.0 million
b. $1.4 million
c. $1.6 million
d. $2.0 million
a. first-round
b. second-round
c. incentive ownership round
d. a and b
e. a, b, and c
scenarios:
a. black hole scenarios
b. living dead scenarios
c. both a and b
d. neither a or b
method?
a. venture capital method
b. expected present value
c. utopian discount process
d. none of the above
approach?
a. the present value of each outcome is calculated
b. each outcome’s present value is multiplied by the probability that
the outcome will occur
c. the probability-weighted outcomes are summed to get an expected
present value for the venture
d. all of the above are components
Chapter 11: Venture Capital Valuation Methods
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Following are MC questions relating to Learning Supplements 11A and 11B:
capital, we would expect its price-earnings multiple to be approximately equal
to: a. the reciprocal of its required return on equity
b. its earnings per share
c. its book–to-market ratio
d. its debt–to–value ratio
a. DDA and VCSC
b. DDA and PDM
c. VSCS and MDM
d. MDM and PDM
under:
a. DDA
b. PDM and MDM
c. VCSC
d. initial book value of equity