Sept. 6, 2002 — Think it’s tough to deduce the right price for that stock you might buy? Spare a thought for Alex Wong — it’s his job to deduce the right price for businesses that don’t even exist yet.
Wong is a partner at Apax Partners Inc., a venture capital firm in New York that invests $11 billion in a host of businesses. His expertise is emerging technologies such as MEMS and nanotech and he decides what a small tech business is worth, often with precious little to show the way.
“For some parts of nanotech, that’s really the case,” he said.
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As more VC firms consider nanotech and more universities license intellectual property in the field, questions about valuation are coming to the fore: How can you determine what the potential market is? How much control will investors expect? And above all, how much money can a startup team get for its idea?
Executives hoping for easy estimates can forget it. The private equity market has already been roiled by uncertainty and losses for nearly two years. The slim history of nanotech investments only makes valuations for nanotech startups more complicated and less concrete.
“It’s very difficult to find a formulaic approach for this sort of embryonic technology,” said Ben Palleiko, a licensing officer at the Massachusetts Institute of Technology in charge of semiconductor and nanofabrication technologies.
Josh Wolfe, a co-founder and managing partner at Lux Capital, said pegging a valuation is half art and half science. While the more scientific approach is to examine a potential market and gauge how much of that a nanotech product might capture, often times that approach is not possible.
“Most companies we see are only core intellectual property. Very few have real products and a market yet,” he said.
That brings Wolfe to the art of valuation. He examines the intellectual property, estimates the worth of patents and studies the resumes of the scientific team. “There’s an intuitive feel to it,” he said.
Wolfe also considers the number of Ph.D.s involved in the startup, and estimates anywhere from $500,000 to $1 million per person depending on the quality of the team. Each scientist will probably command a salary of $100,000 to $150,000, he said, “and the presumption is you’ll get three or four times that from each one.”
Wong said he splits the nanotech market into several subcategories, such as nanotech versions of existing technologies and “building blocks” like carbon nanotubes. Startups with quantified target markets are in a stronger position to argue their valuations.
“I look at each of these markets very differently,” he said.
Wong gave the hypothetical example of a nanotech material to coat food containers. The potential there would be easy to find; a person can count how many soda bottles or canned goods are produced every year, and then gauge the size of the market.
Then there are technologies such as carbon nanotubes. “That’s hardware. We don’t know where that will go yet,” he said.
Startups trying to woo large corporations as acquirers or strategic partners must especially focus on the quantifiable value of their technology. Business development types at pharmaceuticals, chip makers or manufacturers want to see how a startup peddling new technology will cut their costs.
Chris Dippel, a director of technology licensing at Wyeth Pharmaceuticals, said Wyeth typically might consider lab-based technologies for gene expression and other steps in the drug discovery process. Since Wyeth and other pharmaceuticals already do those steps with larger technology, small tech startups looking to do business with them “should be looking at cost displacement.”
Dippel and other executives first put startups through a rigorous scientific review. “All that happens independent of any valuation at all,” he said. “If it all looks promising, the deal is scientifically attractive and likely to advance to the negotiation stage, then we think about valuations.”
Of course, not all valuations are good valuations. Larry Gilbert, director of technology licensing at the California Institute of Technology, said his office often advises budding entrepreneurs against first round VC funding of about $2 million or less because it barely covers the cost of prior research.
Gilbert said a good first round is $2 million to $8 million; for that amount, VCs typically want about 50 percent of the company, meaning a total valuation of as much as $16 million. CalTech also usually takes about 5 percent of the company.
Regardless of financial formulas or gut instincts, VCs and other midwives to the fledgling nanotech industry say nothing substitutes for the basics: a strong vision, a strong leader, well-secured intellectual property.
“If you remove the ‘nano’ label, a nano startup is pretty much like any other startup,” Wong said. “This field is so new that people really have a large green space in front of them.”