Valuations and Sources of Volatility: Part 3 – Public Market Comparables

This is the third post in our series discussing new sources of volatility in our valuations. In this post, we want to discuss how more of our companies are reaching a state of maturity where it is appropriate to calculate the value of the company based on a multiple to revenues. This valuation approach introduces another source of volatility to our values since these multiples are commonly derived from sets of publicly traded comparable companies.

As we discuss frequently throughout our blogs, regulatory filings and presentations, we often make our initial investments in brand new companies that are formed to solve big problems using disruptive science. A subset of these companies successfully bring products or services to market and start generating millions and sometimes tens or hundreds of millions of dollars in revenue annually. As of the end of 2014, we categorized seven companies in our portfolio as “late-stage” companies. These seven companies generated $240 million in revenues in aggregate in 2014, a 10 percent increase from the prior year. By contrast, our 17 early and mid stage companies generated $33 million in aggregate in 2014.

Given most of our early and mid-stage companies are working to bring initial products to market and/or are in the initial stages of building their businesses, it is not possible to derive a value of these businesses based on financial performance. However as one can see from the revenue numbers above, we now have a number of mature companies in our portfolio. In fact, at year-end, the four companies that were valued based on a multiple to revenues accounted for approximately a third, or $30 million, of our total portfolio value. We look at the transition of valuation methodology from private rounds of financing to multiples to revenue as a positive … it means our companies are maturing!

Why is this important enough to blog about? Well, using multiple to revenues is another source of volatility in our valuations, and it is a source that affects a meaningful portion of our portfolio. There are two facets to this volatility source: the revenue of the company and the multiple-to-revenue derived from public comparable companies. Even our “late-stage” companies are relatively young by comparison to many of their public market comparable companies, which means that revenues may be lumpy and uneven from quarter-to-quarter and year-to-year. Furthermore, in times of extreme market volatility, the values of publicly traded companies can shift wildly. These wild shifts would trickle down to the values of our portfolio companies derived from the value of public market comparable companies. These sources of volatility, along with the others highlighted in previous blogs, are things to watch for in our quarterly valuations.