Jan 23, 2013 12:25 PM
“Shark Tank” and Valuation: Mama Didn’t Raise No Fool
How to valuate a company depends on whom you are asking—the buyer or the seller. As a buyer, of course you would want your money’s worth and would think about the future growth of that business. As a seller, besides the “dough” you have put into it, you must also consider the blood, sweat, and tears, not to mention the innovative, revolutionary ideas that went into inventing the product or service the company offers.
There are a number of ways to valuate a company. In Silicon Valley, we’ve heard of the infamous “acqui-hire” where a company buys a startup with the sole intention of obtaining the startup’s team, rather than to own any of its products. Another way to judge the value of a company is to consider the patents it holds. The company that is buying it, whereupon acquiring it, can generate literally a hundred to a thousand times more revenue owning the patent rather than paying a royalty for life. As for companies that have already generated revenue, calculating the profits and losses of the business from the past, present, and projected future can also give the buyer an idea of the business’ future profits and losses, which are directly related to making a valuation. Many times, even with companies that haven’t yet generated a revenue stream, using comparable numbers or prices from similar businesses within a similar sector would also give the buyer a pretty good determination of that particular company’s valuation.
Just this past Friday, our Sqeeqee group had some downtime together. We were hanging around eating pizza, drinking sodas, and watching an episode of “Shark Tank” on ABC. The guys from “Coffee Joulies,” Dave Jackson and Dave Petrillo, intrigued us. Not only did we find their products interesting, but how they decided on their “dealings” with the Sharks made us wonder if their decision would be the right one and if we would make the same choice if we were in their shoes. Both Daves were asking for $150,000 in exchange for a 5% equity stake in their company, Coffee Joulies, valuing their company at $3 million.
The Facts: The cost to make each “Joulie” is $3.65, which includes all of the testing. They are retailing a package of 5 units (5 Joulies) for $50, therefore, selling it at $10 per unit. They did not mention how much they were selling each Joulie at wholesale prices. Their sales came in last year at $575,000 in revenue with a net of just $50,000. They anticipate generating over $1 million in revenue this year.
The Sharks’ Offers:
A. Four Sharks, including Kevin O’Leary, Robert Herjavec, Daymond John, and Lori Greiner joined together to offer both Daves $150,000, the requested amount for NO EQUITY, but asking for a royalty of $6 for “any retail” unit and $3 for “any wholesale” unit sold until their invested $150,000 is recouped. Once recouped, the royalty rate will drop to just $1 per unit in perpetuity thereafter for life!!
B. Mark Cuban was the only shark who went solo on this deal. His offer was $250,000 for 12% equity stake, valuing the company at $2,083,333. He asked for no royalties and no covernance, but his preference was NOT to go into wholesale, retail, or even QVC right away. Mark clearly saw an opportunity for a liquidity event and suggesting the deal from the Four Sharks has a “perpetuity” that is tied to the deal may sour any future deals.
Clearly, the difference between the two offers was the “strategy” behind their investments.
Our Sqeeqee Group’s Personal Analysis:
Our analysis of the deal from the Four Sharks goes beyond their $150,000 investment, since either way, they will recoup that entire amount for every Joulie sold. That would mean if Coffee Joulies generated the precise amount that it did last year ($575,000 in revenue) the Four Sharks would totally recoup their $150,000 even though both Daves said they only raked in $50,000 in net profit. The Four Sharks’ deal is based on the “revenue,” NOT the net profit, since they are asking for $6 per unit sold regardless. So our personal analysis is based only on their royalty deal of $1 perpetuity for life! This is the “catch” of their deal, not the $150,000 investment amount.
Now, the “perpetuity” deal with the Four Sharks is no different than obtaining a 10% stake of revenue. Why? Because for every 1 Joulie (1 unit) sold for $10, the Four Sharks will be getting $1, a 10% stake of revenue! If a package of 5 Joulies is sold for $50, then the Four Sharks would be getting $5, a 10% stake of revenue!
As we mentioned above, valuating a company can be done a number of different ways. With Coffee Joulies, if both Daves are projecting that they will be generating over $1 million in revenue this year, it is not too farfetched for the company to be valued at $3 million, or even at Mark Cuban’s valuation of $2.08 million based on his offer. If revenue is at $1 million, then the Four Sharks would be making 10%, which is $100,000. While the Four Sharks did not ask for an “equity” stake, by having the “perpetuity” clause tied into the company’s revenue stream, let us inform you, the deal has quite a bit of “cloud!” Why? Well, imagine if a group of private equity (P.E.) players wanted to acquire Coffee Joulies for say, $10 million. Even if both Daves wanted to jump at the deal and sign on the dotted line, the P.E. players would not want to close such a deal without first sitting down with the Four Sharks—unless if they want to continue paying the Four Sharks $1 per unit for life after the acquisition. Trust us when we say that P.E. players would NOT want such a deal. They would want to buy out that “perpetuity” clause so that Coffee Joulies is free and clear of any “ties.” P.E. players would want to be in control, and being in control is NOT giving away 10% of your company’s revenue stream, maybe “net” but not “revenue.”
We were totally surprised that even with the call from the two Daves to their advisor, Timothy Ferriss, an author and entrepreneur, they accepted the deal from the Four Sharks. In our opinion, Mark Cuban’s deal of $250,000 for a 12% equity stake would have been a much “cleaner” deal for Coffee Joulies. While 12% may sound like a steep loss in equity, sometimes letting go of some equity is not a bad thing if you have a guy like “Mark Cuban” on your team. Well of course, having the other Four Sharks on your team is totally “stoke” as well, but we are literally having to make a choice between “A” or “B” here. There is no choice for “All of the above.”
In Mark Cuban’s case, owning 12% would make him a part of the Coffee Joulies team. If he is going to cut a 12% ownership stake check for himself, then both Daves (or their investors) could also cut an 88% ownership stake check for themselves, and that should be based on the NET profit, not revenue. If Mark takes a 12% cut from revenue, then the 88% stake could also do the same—a balancing in scale. If additional investment is needed, Mark could also help because of his 12% ownership stake.
On the other hand, the deal from the Four Sharks would NEVER add an additional penny into Coffee Joulies if additional capital is needed, unless a new deal is made. They are just plainly going to earn $1 per unit, or 10% of revenue NO MATTER WHAT! What a sweet deal for the Four Sharks. We would like to CONGRATULATE the Four Sharks for such a fine, awesome deal they’ve made!!
We are coffee junkies due to staying up late as developers and programmers, so we have no doubt that Coffee Joulies will continue to do well. Our Sqeeqee group would NOT have accepted the deal from the Four Sharks and would rather have accepted the deal from Mark Cuban. But hey, that’s life—for every loser, there is a winner, right? No two parties can both be winners. Only time will tell for the team at Coffee Joulies if their decision was what’s best for them. From one startup to another, we would like to say to them, “Sail on and conquer!”
In conclusion, we can say that our Sqeeqee group has had an experience or two with a few “Sharks” and private equity players here and there. It doesn’t matter which side of the coin you are on—the buyer side or seller side—analyze things well; stick to your guns, your plans, and your beliefs; and just remember that Mama didn’t raise no fool!
January 29, 2013 @ 5:45 PM
UPDATE: Please see our reply to Coffee Joulies' clarification below
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