Observable elements of the "alpha" for early stage IP valuations

Mike Pelligrino's new model for valuation of early stage companies replaces the "alpha" judgment in a build-up model discount rate with observable data for: holding period (time to generate return), success rate of commercializing the IP, expenses (carried interest, VC management fee) and target returns (for the future, not for the past). "You can go and look at success rates for large scale software development in the insurance industry, or the percent of insulin therapies that come to market," said Mike. Of course, if your target company is not as capable as a leader in the market, judgment is still required to "increase the cost of capital to reflect the additional risk." And, you can't use non-comparable success rates--"consumer products fail 93% of the time so you wouldn't use a comsumer product success rate to calculate cost of captial for a drug application with the FDA." There's no way to get around the math that if an investment manager as a 20% return rate, a 5 year holding period, and a 20% success rate, they're gambling if they don't use the formula. Mike comments that there are lots of sources (industry groups, academic research, investment research sites) for success rates. His algebra for creating discount rates for IP companies is a key element of BVR's Guide to IP Valuation, available here.