Beware of myths when valuing Internet companies

BVWireIssue #102-4
March 23, 2011

During last week’s webinar “Valuing Internet-Based Companies” Mike Pellegrino (Pellegrino & Associates) dispelled five myths of Internet company valuations.  “Overly optimistic forecasts overstate value potential, and many forecasts understate development timelines and technology needs and costs,” says Pellegrino. “In fact, many Internet-focused companies should never receive funding,” he reminds all of us.

Listed below are some of the myths and facts Pellegrino discussed in the webinar:



We will generate revenues quickly

IF you survive your revenues will grow much slower than you ever anticipated

We accounted conservatively for #X per user/visit/eyeballs/etc. in revenue

Per-use metrics are meaningless for revenue forecasts

We are going to this on the cheap

Quality sites require significant investment to succeed

We are going to go viral

There is no way of predicting what goes viral

We are going to use this as a loss leader

Losses are just that - losses

A training pack of this session is available here.  In a recent article repeated in Business Week, David Wanetick (Incremental Advantage) also warns valuation analysts against overvaluing companies just because they own patents or have patents pending.  His statistics are sobering:

  • Half of all patents have NO strategic value.
  • Between 2 – 5% of patents generate any royalties.
  • The average length of time for USPTO to make a decision on a patent is now 32 months (albeit pushed up dramatically by particular technologies).

Here’s the key statistic for valuators: the “ONLY way a patent’s validity can be proven is through litigation,” and while filing for a patent might cost the holder, say, $10,000, on the average, in legal fees, the cost of litigation is closer to $7M (where $25M or more is at stake). Whether or not the patent owner able and willing to protect the patent becomes a crucial question with respect to value. Add to this the fact that rate of success in defending patent validity is not overwhelmingly positive.

Valuators must research the likelihood of success, based on results to date, other deals and their experience in the industry. The other effect of all of this, of course, is to force “small” or risk-averse inventors to sell their inventions or monetize their licenses. Then too, IP buyers know well of these risks, and monetization rates are startlingly low.

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