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Valuation of Early-Stage Technology Ventures: An Approach to Derive the Discount Rate

Christoph P. Wessendorf, Jared Schneider, Kai Shen and Orestis Terzidis
The Journal of Alternative Investments Winter 2021, 23 (3) 32-44; DOI: https://doi.org/10.3905/jai.2020.1.114
Christoph P. Wessendorf
is a doctoral student at the Institute for Entrepreneurship, Technology Management, and Innovation (EnTechnon) at Karlsruhe Institute of Technology (KIT) in Karlsruhe, Germany
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Jared Schneider
is a master of science student in industrial engineering at the Institute for Entrepreneurship, Technology Management, and Innovation (EnTechnon) at Karlsruhe Institute of Technology (KIT) in Karlsruhe, Germany
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Kai Shen
is a bachelor of science student in industrial engineering at the Institute for Entrepreneurship, Technology Management, and Innovation (EnTechnon) at Karlsruhe Institute of Technology (KIT) in Karlsruhe, Germany.
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Orestis Terzidis
is the chair of the Institute for Entrepreneurship, Technology Management, and Innovation (EnTechnon) at Karlsruhe Institute of Technology (KIT) in Karlsruhe, Germany,
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Abstract

Valuation of firms in general and early-stage technology ventures is sometimes referred to as an art rather than a science. Yet, an objective and practical valuation is critical for venture capitalists to make sound investment decisions. The authors develop an approach to derive the discount rate for a present value approach to valuation, broadly used by practitioners, that accounts for a missing data history and subjectivity in the early stage. This approach is based on thorough previous research analyzing the impact of subjective valuation determinants on a venture’s value and thereby expands the results’ academic and practical context. This impact is transformed into a valuation score and matched to a suitable discount rate structure. An initial validation within the valuation of three early-stage technology ventures provides promising results, with modeled discount rates showing a deviation of less than 2% from the real target return applied. The resulting discount rates can then be used for valuation.

TOPICS: Private equity, factor-based models, accounting and ratio analysis

Key Findings

  • ▪ The missing financial track record of early-stage technology ventures requires an accurate reflection of relevant non-financial determinants. The authors develop a quantitative valuation approach for early-stage technology ventures based on conventional valuation methods that accounts for these non-financial determinants.

  • ▪ With this approach, a suitable discount rate is derived based on the observable non-financial determinants. The resulting discount rates can then be used for valuation within a present value valuation framework, such as the venture capital method.

  • ▪ An initial validation within the valuation of three early-stage technology ventures provided promising results with modeled discount rates showing a deviation of less than 2% from the real target return applied.

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The Journal of Alternative Investments: 23 (3)
The Journal of Alternative Investments
Vol. 23, Issue 3
Winter 2021
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Valuation of Early-Stage Technology Ventures: An Approach to Derive the Discount Rate
Christoph P. Wessendorf, Jared Schneider, Kai Shen, Orestis Terzidis
The Journal of Alternative Investments Dec 2020, 23 (3) 32-44; DOI: 10.3905/jai.2020.1.114

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Valuation of Early-Stage Technology Ventures: An Approach to Derive the Discount Rate
Christoph P. Wessendorf, Jared Schneider, Kai Shen, Orestis Terzidis
The Journal of Alternative Investments Dec 2020, 23 (3) 32-44; DOI: 10.3905/jai.2020.1.114
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