Cs207 5
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This document contains the syllabus for a class on software valuation. The syllabus lists 13 topics to be covered, including why software should be valued, open source software models, principles of valuation, the role of intellectual property, risks of outsourcing, and the effects of tax havens on housing intellectual property. It also provides examples and graphs about software development lags and the timing of expenses and revenues in the software development process.
![Planning:
Consistency in plans
When comparing business alternatives
• Give each choice the same chance
1. Temporal consistency
Computing versus communication
Local versus Cloud in 2012
o Skate to where the puck is going [Gretsky]
2. Discount rate
3. Resource prices
Green alternatives
Benefits may depend on future price of oil –
o if you assume future price = 3 x now, why not invest in oil instead
10/28/2011 CS207 15](https://image.slidesharecdn.com/cs207-5-111028222825-phpapp02/85/Cs207-5-15-320.jpg)
![Example
Enterprise SW versus cloud
[Benioff:2009]
• SIEBEL enterprise sales force management $
1. Price $1,500 per seat, at 200 users = 300,000
2. $54,000 for support (18%) /year, x 5 = 270,000
3. $1,200,000 consulting for installation =1,200,000
4. $100,000 admin.personnel/year, x 6 = 600,000
5. $ 30,000 training / year, x 6 = 180,000
6 years’ usage Total = 2,550,000
Note that the customer’s total is >> than the price
10/28/2011 CS207 16](https://image.slidesharecdn.com/cs207-5-111028222825-phpapp02/85/Cs207-5-16-320.jpg)
Cs207 5
- 1. CS207 #5, 28 Oct. 2011 Gio Wiederhold Gates B12 10/28/2011 Gio: CS207 1
- 2. Syllabus: 1. Why should software be valued? 2. Open source software. Scope. Theory and reality 3. Principles of valuation. Cost versus value. 4. Market value of software companies. 5. Alternate business models. Making money from free SW 6. Intellectual capital and property (IP). 7. Life and lag of software innovation. Marketing. Allocation. 8. Sales expectations and discounting. 9. The role of patents, copyrights, and trade secrets. 10. Licensing. 11. Separation of use rights from the property itself. 12. Risks when outsourcing and offshoring development. 13. Effects of using taxhavens to house IP. 10/28/2011 Gio: CS207 2
- 3. Example of Free • Adobe produced software to generate and read markup text (pdf) for sale to companies. minor business for internal publishing • Arrangement with the IRS that if Adobe would separate the reader and provide for free, it would publish tax forms using pdf huge business – now everyone needed a reader and companies bought pdf generators to publish in pdf • When patents ran out, others companies made pdf generators available Adobe still provides many pdf related services 10/28/2011 Gio: CS207 3
- 4. Let’s ignore the intangibles, we cannot measure them reliably. Book value Intangibles 10/28/2011 Gio: CS207 4
- 5. Timing of expense and income capitalization of cost Manufacturing & allowed under GAAP distribution delay Release to Production ←→ Distribution to Sales Sales ← ─→ Revenues → development lag Centroid of Costs → Centroid of total revenue development cost .. Testing ~60%→ Sales lag . Research, Design, Implementation ← −−−−−−−−−−−−− → Development done → ←→ marketing lag time → Marketing Centroid of pre- ← Costs sales marketing costs Post-sales marketing, part of investment: IGE part of sales cost: CoGS 28-Oct-11 CS207 5
- 6. SW Lags Development done → β ← General Revenues → availability ↔ Sales development lag ←→ Costs → includes testing Centroid of revenue &Test ing ←−−−−−−−→ sales lag . Research, Implementation ← Costs Centroid of pre-sales ↔ marketing lag time → marketing costs Marketing 28-Oct-11 CS207 6
- 7. Lag delays benefits of R&D investments Estimate effective lag . growth limit ~37% → Effort → @27.4% → ~14% → Testing growth limit Development Research 35%→ start 75% 50% 25% done 10/28/2011 Gestation period → Gio: CS207 7
- 8. Start-up development A startup is unlikely to ramp up linearly Use exponentional growth, exp 0.025 Assume 1. 12.5% research Given that idea is clear, only towards for implementation 2. 25.0% testing Minimal and risky 3. 67.5% left for implementation • Overlap research and implementation until testing starts • Overlap implemtation and testing until RPS Results Overall centroid @0.27 before RPS -- later Research from 1.00 to 0.33, centroid @ 0.65 before RPS Implementation from 0.67 to 0.00, centroid @ 0.29 before RPS Testing from 0.17 to 0.00, centroid @ 0.08 before Hiring rate at RPS 21%, at the limit for effectiveness Ignore different 28-Oct-11 CS207 staff salaries 8
- 9. Graph of start-up development 21% effort Testing starts when growth 17% time remains → 100% Res., Imp, & Implementation starts when Test @0.27 → 25% 80% 67% time remains → Testing 60% Research ends when 33% time remains → 40% 12.5% Research 62.5% 20% @0.65→ Implementation @0.29→ 0 start 0.75 0.50 0.25 done 28-Oct-11 CS207 9
- 10. Development in mature company with 12.5% research and 25% testing effort, 38% effort growth 62.5% implementation at start Res., Imp, & 5% company staff growth Test @0.42 → 100% Available Testing starts when Relative Effort → ←−−− 40% time remains 75% resources Research ends when ← 65% time remains T ←Implementation starts when 50% 85% time remains R I 25% @0.46→ 0 @0.85→ 1.00 0.75 0.50 0.25 done Values based on finite integration, exp= 0.05 28-Oct-11 CS207 10
- 11. Lag differs less than development period Testing R&I done done start Testing R&I start done Testing Effective lag = Development period × Centroid fraction R&I done start done 28-Oct-11 CS207 11
- 12. Ongoing development New considerations 1. Have staff already a. Early versions rapid growth, but observe ~20% limit b. Later, best grow slower 2. Can overlap version development a. Don’t let valuable staff be idle b. Missing features should already be understood c. Rapid analysis of problems to allow next version fixes d. Any research should be done before major staff effort 3. Adequate testing to keep reputation CS207 12
- 13. 2nd Version substantial testing 100% Effort → 43% Testing during version n 56% 75% [email protected]→ interval [email protected]→ 50% R&I @1.00 → 25% Release 1.50 1.25 version n-1 0.75 0.50 0.25 done Staff becomes available when prior version enters testing 28-Oct-11 CS207 13
- 14. Marketing • Business model must allocate spending optimally Technology, as needed, long life and lag & Marketing, necessary, less lag, slower growth Life of advertising 50% of technology, mix product & brand • Interdependence viral in your brain forever Consistent Relevant CS207 Linked by a common name and label Honest name for file software misled: FLASH for flexible, but it wasn’t fast 28-Oct-11 CS207 14
- 15. Planning: Consistency in plans When comparing business alternatives • Give each choice the same chance 1. Temporal consistency Computing versus communication Local versus Cloud in 2012 o Skate to where the puck is going [Gretsky] 2. Discount rate 3. Resource prices Green alternatives Benefits may depend on future price of oil – o if you assume future price = 3 x now, why not invest in oil instead 10/28/2011 CS207 15
- 16. Example Enterprise SW versus cloud [Benioff:2009] • SIEBEL enterprise sales force management $ 1. Price $1,500 per seat, at 200 users = 300,000 2. $54,000 for support (18%) /year, x 5 = 270,000 3. $1,200,000 consulting for installation =1,200,000 4. $100,000 admin.personnel/year, x 6 = 600,000 5. $ 30,000 training / year, x 6 = 180,000 6 years’ usage Total = 2,550,000 Note that the customer’s total is >> than the price 10/28/2011 CS207 16
- 17. Cloud delivery by salesforce.com • Benioff Saleforce.com new entry: $150.-month & user only -- monthly billing Make interface look like Amazon – no training needed Low risk for individual adopters Still a high risk for a changeover in large businesses, where changes are controlled by a risk-adverse IT manager or CIO. Start focusing on small businesses Hard to reach a broad market with little cash Must make a lot of noise Later sales force had to change its initial model Deal with large companies Deal with the Dot-com bust, when many companies failed Business must remain flexible 10/28/2011 CS207 17
- 18. Advertising 1. Audience 3. Logo & name Focused Essential for branding Salesforce In front of competitors Metaphor 4. Timing annual sale meetings 3x 1. Fake demonstrators in SF. Have Product ready 2. Give coffee, mugs, rides, • Few bugs literature to attendees in NY • Clear operation 3. Hire all taxis in Nice, give Negative? • Useful free rides to site in Cannes. Vs. Superbowl? 2. Address • Much buzz a. Buyers in corporations c. Both • Huge audience b. Users and employees • Your audience? • Understand motivations for change 10/28/2011 CS207 18
- 19. Review Allocation • When is allocation needed? 1. Tech. , Pharma company: income due to R&D versus advertising 2. Financial Company: income due to software versus investment experts 3. Internal ▬ product mix • For the Pareto-optimality allocation of income we use cost. But recall: Do NOT use cost as a surrogate for value, value of intangibles come from derived income. 28-Oct-11 CS207 19
- 20. Expense Rollover A valuation based on cost 1. Collect the expenses ei over the total lag period p 2. Adjust the expenses by a discount rate d, ai= (1+d)p-i 3. For year i = 1 → p estimate the R&D retained ri =1- 1/p 4. Aggregate retained to the end date, R = Σ ri x ei x ai 5. From experience, publications obtain an expected expense to income margin m; m can range from 1 to 20 ... m≈2 in the first model we used 6. Expected value of IP V = m x R But the estimation of m is verrrrrrrrrrry iffy Technological advances are rarely stable But could be used for a) advertising -- much untrustworthy data b) stable maintenance component only 28-Oct-11 tCS207 20
- 21. Setting License fees Say you want to delegate sales in Europe to some company EUsales that can do it easier over there • How do you set the fees or royalties? 1. You have computed a value of your SW of $1M But without discounting, it is actually $1.6M = Σ(due old, slide 5) You will also maintain the SW 1.36M = Σ(maintenance cost, slide 12) The total due is $3M 2. You expect the European sales will be 40% of total, 20 000 The reason for not discounting is that funds arrive at the same times. • To earn the same you should charge 1./2.= $150/unit It does not matter how EUsales sells it and what it charges Complexities are required language, interface improvements 10/28/2011 Gio: CS207 21
- 22. Discussion • A long-lived product is hard to displace if It is well maintained, but that becomes costly Keeps up with all standards • Internal replacement Should be easier But has not been in practice Next week IP, IP protection, and IP licensing 28-Oct-11 CS207 22