VALUATION INTERNATIONAL BEST PRACTICES
The valuation methods described have been adopted from the guidelines developed
by the Association Française des Investisseurs en Capital (AFIC), the British Venture
Capital Association (BVCA) and the European Private Equity and Venture Capital Association
(EVCA). These guidelines are endorsed by the South African Venture Capital and Private
Equity Association (SAVCA) and 21 other associations worldwide.
For more information:
The objectives of the guidelines is to set out best practices for reporting the
fair value of investment held by the fund and to provide a framework for consistently
determining valuations for investments held by the Alpha Capital Trust.
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"Fair Value is the price that would be received for an asset in a transaction between
knowing market participants"
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Alpha Capital applies the valuation standards consistently and where a change in
valuation methodology has been adopted this is noted. Alpha Capital will endeavor
to report its underlying investments at fair market value using reliable and appropriate
assumptions. Generally, underlying valuations will be crystallised on sale or flotation
of the business.
Alpha Capital will determine fair value using one of the approved valuation methodologies
as set out by the adopted guidelines:
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1.
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Price of Recent Investment;
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2.
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Earnings Multiple;
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3.
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Discounted Earnings;
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4.
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Discounted Cash Flow;
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5.
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Market Price on Exchange;
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6.
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Industry Valuation Benchmarks
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The fair value is estimated using the appropriate methodology and is then adjusted
for surplus assets or unrecorded liabilities. After which an appropriate marketability
discount is applied against the value. Alpha Capital appreciates the capital structure
of a company and to this end will adjust the fair value for the effect that different
financial instruments may have on the company's value.
METHODS OF VALUATION
1. Price of Recent Investment
Alpha Capital will apply this method of valuation to investments that were made
recently. This value may be determined from the cost that the fund has purchased
its stake in the underlying company or a recent transaction that has taken place
into the underlying company by an outside party. Where the price at which a third
party has invested is being considered, Alpha Capital will investigate the circumstances
to the transaction to verify that the price is representative of fair value.
The passage of time will diminish the appropriateness of this methodology. Typically
Alpha Capital will not apply this method for longer than a period of one year.
2. Earnings Multiple
Alpha Capital will apply an earning multiplier to the earnings of the business where
the business has an identifiable continuing stream of earnings. Alpha Capital will
apply this to normalized earnings if a company has negative earnings or by applying
a sustainable profit margin on current revenue. Market based multiples will be used,
using a company/index with similar risk attributes and earnings growth prospect.
The earnings multiple will be reduced for the following:
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If the company is smaller and less diverse;
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If the company is reliant on a smaller number of key individuals;
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If the company is dependent on one product or one customer;
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If the company has high gearing;
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If the company has poor quality earnings;
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3. Discounted Cash Flow / Earnings
Alpha Capital will use this method by calculating the present value of expected
future cash flows or earnings. This method will only be used where the underlying
company affords a high level of financial transparency. A terminal value may be
calculated using an earning multiple approach and discounted back to the present
day value. Alpha Capital will maintain detailed earnings forecasts, apply an appropriate
risk adjusted discount rate and a reliable terminal value where this method is used.
Alpha Capital recognizes the importance of a model’s assumption and the sensitivity
of valuations to these inputs. The discount rate is one variable which may affect
this. Alpha objectively calculates discount rates incorporating and analyzing the
underlying company’s sensitivity to a wide range of economic risk factors. These
include sovereign risk, inflation risk, interest rate risk, IT risk, corporate governance
risk, competition risk, obsolescence risk, resource supply risk and many others.
In special circumstances Alpha Capital may outsource this function to reputable
valuers who adhere to the above principals.
4. Market Price on Exchange
Alpha Capital will value any company that is listed on a recognized exchange at
the bid price on the valuation date or the closing price on the previous day. Alpha
will apply this methodology when there is an active market trading the company’s
equity. As such, no marketability discount will be applied to the value of the investment.
5. Industry Valuation Benchmarks
Where an investment is within an industry that has an industry specific valuation
benchmark, use may be made of these benchmarks. The use of such industry benchmarks
is only likely to be reliable and thus appropriate in limited situations, and is
more likely to be used as a reasonability check of values produced by using other
methodologies. With regard to the property holdings of Alpha Capital, the earnings
yield basis has been used to value these investments.
Applying Marketability Discount
The marketability discount will vary from situation to situation. Typically a discount
in the range of 10% to 30% will be used, depending on the circumstances. In the
case of a six-month lock up period, typically a discount of 20% of the market value
is used at the beginning of the period, reducing to zero at the end of the period.
Other factors influencing the market discount include:
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The closer a realization
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event the lower the discount
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The greater the influence of the private equity fund over the timing of the realization
the lower the discount
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Are the other shareholders like minded?
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Is there an agreed exit strategy?
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What has to be done to make the company salable?
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Stock market conditions, mergers and acquisitions activity level
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