Background Note | HBS Case Collection | July 1987 (Revised October 2009)

A Method For Valuing High-Risk, Long-Term Investments: The "Venture Capital Method"

by William A. Sahlman and Daniel R Scherlis

Abstract

Describes a method for valuing high-risk, long-term investments such as those confronting venture capitalists. The method entails forecasting a future value (e.g., five years from the present) and discounting that terminal value back to the present by applying a high discount rate (e.g., 50%). Provides an explanation of this method, including a detailed discussion of the determinants of the key factors ranging from the discount rate to the terminal value. The pedagogic objective is to make students aware of the issues involved in valuing such "futures" investments. A model is provided that further elucidates the determinants of value.

Keywords: Forecasting and Prediction; Entrepreneurship; Venture Capital; Investment; Risk Management; Valuation;

Citation:

Sahlman, William A., and Daniel R Scherlis. A Method For Valuing High-Risk, Long-Term Investments: The "Venture Capital Method". Harvard Business School Background Note 288-006, July 1987. (Revised October 2009.)