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Valuing Firms With No Earnings, No History And No Comparables

The Dark Side of Valuation: Firms with no Earnings, no History and no Comparables Can Amazon.com be valued? March 2000

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Abstract
In traditional valuation models, we begin by forecasting earnings and cash flows and discount these cash flows back at an appropriate discount rate to arrive at the value of a firm or asset. This task is simpler when valuing firms with positive earnings, a long history of performance and a large number of comparable firms. In this paper, we look at valuation when one or more of these conditions does not hold. We begin by looking ways of dealing with firms with negative earnings, and note that the process will vary depending upon the reasons for the losses. In the second part of the paper, we look at how to value young firms, often a year or two from start-up, with negative earnings, small or negligible revenues and few comparables. We will argue that while estimation of cash flows and discount rates is more difficult for these firms, the fundamentals of valuation continue to apply. Finally, we look at how best to do relative valuation for young firms with negative earnings and few comparables. The valuation of Amazon.com presented in this paper was done in February 2000, when the stock was trading at $84 per share. You can download the spreadsheet with the entire valuation from this site:

Amazon2000.xls

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The value of a firm is the present value of expected cash flows generated by it, discounted back at a composite cost of capital that reflects both the sources and costs of financing used by it. This general statement applies no matter what kind of firm we look at, but the ease with which cash flows and discount rates can be estimated can vary widely across firms. At one end of the continuum, we have firms with a long history, positive earnings and predictable growth, where growth rates in earnings can be estimated easily and used to forecast future earnings. The task is made simpler still if the firm has comparable...