Grand Junction Grand Junction NetworksNetworks

Jason MattathilJason MattathilLarry ShiLarry Shi

Tim HobanTim HobanYongan WuYongan Wu

FNCE 451FNCE 451March 3, 2005March 3, 2005

Outline of PresentationOutline of Presentation

Grand JunctionGrand Junction IPO vs. AcquisitionIPO vs. Acquisition ValuationValuation PerspectivesPerspectives ConclusionConclusion

Grand Junction NetworksGrand Junction Networks Leader in the Ethernet Desktop Switching MarketLeader in the Ethernet Desktop Switching Market

Founded in 1992 by Howard Charney Founded in 1992 by Howard Charney Experienced rapid growth in revenues – over $65 Experienced rapid growth in revenues – over $65

million expected in 1996million expected in 1996 Overall market projected to grow to $650 M by Overall market projected to grow to $650 M by

19971997 Funded through 3 rounds of venture financingFunded through 3 rounds of venture financing

Critical decision: go for IPO or be acquired by CiscoCritical decision: go for IPO or be acquired by Cisco Switching technology would complement Cisco’s Switching technology would complement Cisco’s

router dominancerouter dominance Grand Junction files S-1 form for IPOGrand Junction files S-1 form for IPO Cisco raises the offer to $346 millionCisco raises the offer to $346 million

IPO vs. AcquisitionIPO vs. Acquisition

IPO’sIPO’s PrestigePrestige Trading regulationsTrading regulations Lack of immediate liquidityLack of immediate liquidity Litigation exposureLitigation exposure Reporting requirementsReporting requirements Recruiting difficultiesRecruiting difficulties

AcquisitionsAcquisitions Positive change of pacePositive change of pace Loss of autonomy/authorityLoss of autonomy/authority Financial rewardFinancial reward

IPO: S-1 Based Valuation IPO: S-1 Based Valuation MethodMethod

PRICEPRICE

PER PER SHARSHAR

EE

NONO

BOUNCBOUNCEE

5%5% 10%10% 15%15% 20%20% 25%25% 30%30%

$12$12 256.19256.19 269269 281.281.8181

294.6294.622

307.4307.433

320.2320.244

333.0333.055

$13$13 277.54277.54 291.291.4242

305.305.2929

319.1319.177

333.0333.055

346.9346.933

360.8360.8

$14$14 298.88298.88 313.313.8282

328.328.7777

343.343.7171

358.6358.666

373.6373.6 388.5388.544

$15$15 320.23320.23 336.336.2424

352.352.2525

368.2368.266

384.2384.288

400.2400.299

416.3416.3

$16$16 341.58341.58 358.358.6666

375.375.7474

392.8392.822

409.9409.9 426.9426.988

444.0444.055

Valuation ApproachesValuation ApproachesFCF MethodFCF Method ComparablesComparables Real OptionsReal Options

Common Common industry industry approachapproach

Common Common industry industry approachapproach

Not common in Not common in the industrythe industry

Extremely Extremely sensitive to sensitive to terminal value, terminal value, WACCWACC

Use for private Use for private company company valuations can valuations can be difficultbe difficult

Improves on Improves on NPV through NPV through valuing valuing contingencies contingencies built into built into investmentinvestment

Cash flow Cash flow assumptions assumptions may be difficultmay be difficult

Generally Generally adjusted based adjusted based on capital on capital structure, structure, illiquidity, risksilliquidity, risks

Modeling real-Modeling real-life investment life investment options can be options can be difficultdifficult

Net Present Value Net Present Value MethodMethod

FCF MethodFCF Method Assume: 3% Terminal Growth, 17% Assume: 3% Terminal Growth, 17%

WACCWACC Revenue growth rate based on $650 M Revenue growth rate based on $650 M

Ethernet Switching market in 1997Ethernet Switching market in 1997 Sensitivity analysis for WACC and Sensitivity analysis for WACC and

Terminal Growth RateTerminal Growth Rate MC Simulation for NPVMC Simulation for NPV

Valuation = $433 Valuation = $433 millionmillion

8

FCF CalculationFCF CalculationP r o j e c t e d Q u a r t e r ly R e v e n u e f o r G r a n d J u n c t io n

0

5 0

1 0 0

1 5 0

2 0 0

Q 1 ' 9 5 Q 2 ' 9 5 Q 3 ' 9 5 Q 4 ' 9 5 Q 1 ' 9 6 Q 2 ' 9 6 Q 3 ' 9 6 Q 4 ' 9 6 Q 1 ' 9 7 Q 2 ' 9 7 Q 3 ' 9 7 Q 4 ' 9 7

Qtr Revenue ProjectedQ1'95 5.10Q2'95 6.30Q3'95 8.00Q4'95 10.60Q1'96 12.40Q2'96 14.70Q3'96 17.50Q4'96 20.90Q1'97 33.98Q2'97 55.24Q3'97 89.80Q4'97 145.99

Historical Ratio Q1'97 Q2'97 Q3'97 Q4'97Cost of Sales/Revenues 36.00% 36.00% 36.00% 36.00%R & D/Revenues 14.50% 14.00% 14.00% 14.00%Marketing/Revenues 19.00% 19.00% 19.00% 19.00%General & Admin/Revenues 4.00% 4.00% 4.00% 4.00%Revenue Growth Rate 58.29% 58.29% 58.29% 58.29%

Projected

NPV= $ 451 M

9

N P V a s a f u n c t i o n o f G r o w t h R a t e

0

2 0 0

4 0 0

6 0 0

8 0 0

1 0 0 0

1 9 . 4 3 % 3 8 . 8 6 % 5 8 . 2 9 % 7 7 . 7 1 % 9 7 . 1 4 %

G r o w t h R a t e

NP

V (

$M

)

N P V

Sensitivity AnalysisSensitivity Analysis

Sensitivity Analysis 451.16 14% 15% 16% 17% 18%

2% 531 482 441 405 3743% 577 520 472 432 3964% 631 564 509 462 4235% 697 618 552 498 453

Terminal Growth Rate

WACC

10

MC SimulationMC Simulation

Public Companies Public Companies Comparables Valuation Comparables Valuation

MethodMethod 3Com3Com

Bay Bay NetworksNetworks CabletronCabletron

CiscoCisco Digital Digital

EquipmentEquipment Fore Fore

SystemsSystems

Chosen from Grand Chosen from Grand Junction S-1Junction S-1 Equally weightedEqually weighted Fiscal Year 1995Fiscal Year 1995

FY 1995 Comparison FY 1995 Comparison ValuationsValuations

Average Average ($=Millions)($=Millions)

(Market Value (Market Value ÷÷ Sales) Sales)×× (Grand Junction 1995 (Grand Junction 1995

Sales)Sales)

173.65173.65

(Market Value (Market Value ÷÷ Book Value) Book Value)

×× (Grand Junction 1995 Book (Grand Junction 1995 Book Value)Value)

77.5277.52

(Market Value (Market Value ÷÷ Earnings) Earnings)

×× (Grand Junction 1995 (Grand Junction 1995 Earnings)Earnings)

260.57260.57

Averaged ValuationAveraged Valuation(No Adjustment Applied)(No Adjustment Applied)

170.58170.58

Public Companies Public Companies Comparables Final Comparables Final

ValuationValuation

Private Companies Private Companies Comparables MethodComparables Method

All companies acquired by CiscoAll companies acquired by Cisco Equally weightedEqually weighted (Acquisition Value) ÷ (Last 12 mo. Revenue) (Acquisition Value) ÷ (Last 12 mo. Revenue)

=Revenue Multiple=Revenue Multiple (Revenue Multiple) × (Grand Junction Revenue)(Revenue Multiple) × (Grand Junction Revenue) Average of valuations based onAverage of valuations based on

multiples – $310.80 millionmultiples – $310.80 million

CrescendoCrescendo

CommunicatioCommunicationsns

9/21/939/21/93

Newport Newport

SystemsSystems

SolutionsSolutions

07/12/9407/12/94

KalpanaKalpana

09/20/9409/20/94

Revenue Multiple Revenue Multiple

CompanieCompaniess

AcquisitioAcquisitionn

ValueValue

Last 12Last 12

MonthsMonths

RevenueRevenue

RevenueRevenue

MultipleMultiple

CrescendCrescendoo

81.9081.90 9.009.00 9.109.10

KalpanaKalpana 198.90198.90 30.0030.00 6.636.63

Newport Newport

SystemsSystems82.9082.90 5.405.40 15.3515.35

Revenue Based Valuation Revenue Based Valuation

CompanieCompaniess

RevenueRevenue

MultipleMultipleGJ 1995GJ 1995

RevenueRevenue

Revenue Revenue Based Based

ValuationValuation

CrescendCrescendoo

9.109.10 30.0030.00 273.00273.00

KalpanaKalpana 6.636.63 30.0030.00 198.90198.90

Newport Newport

SystemsSystems15.3515.35 30.0030.00 460.50460.50

AverageAverage 310.80310.80

(1996) Revenue Forecast (1996) Revenue Forecast ValuationValuation

CompanieCompaniess

RevenueRevenue

MultipleMultiple

GJ 1996GJ 1996

Sales Sales ForecastForecast

Revenue Revenue Forecast Forecast ValuationValuation

CrescendCrescendoo

9.109.10 65.565.5 596.05596.05

KalpanaKalpana 6.636.63 65.565.5 1005.431005.43

Newport Newport

SystemsSystems15.3515.35 65.565.5 434.27434.27

AverageAverage 678.58678.58

(1997) Revenue Forecast (1997) Revenue Forecast ValuationValuation

CompanieCompaniess

RevenueRevenue

MultipleMultiple

GJ 1997GJ 1997

Sales Sales ForecastForecast

GR GR Multiple=3Multiple=3

Revenue Revenue Forecast Forecast ValuationValuation

CrescendoCrescendo 9.109.10 325.00325.00 2957.502957.50

KalpanaKalpana 6.636.63 325.00325.00 4988.754988.75Newport Newport

SystemsSystems15.3515.35 325.00325.00 2154.752154.75

AverageAverage 3367.003367.00

18

Grand Junction’s OptionsGrand Junction’s Options

Sell to CiscoSell to Cisco IPO at $12-14, or $16 per IPO at $12-14, or $16 per

shareshare Remain PrivateRemain Private Issue Junk BondIssue Junk Bond Shut downShut down

19

IPO Option ValuationIPO Option Valuation

maturity (years) (t) 0.25 0.25 0.25 0.25strike price (X) 451.16 451.16 451.16 451.16risk free rate (r RF) 6.00% 6.00% 6.00% 6.00%IPO Price ($/share) 13Price bounce after IPO 15.00% 10.00% 15.00% 20.00%current stock price (P) $305.60 $359.77 $376.13 $392.48standard deviation (Sigma^2) 50.00% 50.00% 50.00% 50.00%d1 -1.37316 -0.72041 -0.5426 -0.37236d2 -1.62316 -0.97041 -0.7926 -0.62236N(d1) 0.084852 0.235637 0.293703 0.354812N(d2) 0.052278 0.165922 0.214006 0.266852

call price 2.70 11.03 15.36 20.66

New Price=Strike(X)+Call 453.86 462.19 466.52 471.82

16

Base Assumptions for Black-Scholes Model:Base Assumptions for Black-Scholes Model:S=$451.16 million, from FCF methodS=$451.16 million, from FCF methodT= 3 months, ~ time to go IPOT= 3 months, ~ time to go IPOStd Dev of Returns= 50%Std Dev of Returns= 50%Risk Free Rate= 6%Risk Free Rate= 6%

20

Sell to Others Option Sell to Others Option ValuationValuation

Bay Network and others' offer premium 10% 20% 30%

Others' offer Price in 3 months $357.50 $390.00 $422.50

Other offers' current value $342.93 $374.10 $405.28

       

maturity (years) (t) 0.25 0.25 0.25

strike price (X) 466.52 466.52 466.52

risk free rate (r RF) 6.00% 6.00% 6.00%

current stock price (P) $342.93 $374.10 $405.28

standard deviation (Sigma^2) 50.00% 50.00% 50.00%

d1 -1.0461 -0.6981 -0.3779

d2 -1.2961 -0.9481 -0.6279

N(d1) 0.1477 0.2426 0.3527

N(d2) 0.0975 0.1715 0.265

       

call price 5.87 11.91 21.16

New Price=Strike( X) +Call 472.39 478.43 487.68

21

Real Options MethodReal Options Method

Black Scholes Model is used to value Black Scholes Model is used to value optionoption

Valuation Options Valuation Options IPO OptionIPO Option

w/ $16 & 15% Bounce w/ $16 & 15% Bounce $ 466 millions $ 466 millions Sell OptionSell Option

w/ 20% premium w/ 20% premium $ 478 millions $ 478 millions

Final Option ValuationFinal Option ValuationValuation = $478 Valuation = $478 millionmillion

Valuation SummaryValuation Summary Weighting of valuation approaches Weighting of valuation approaches

Valuation Approach

Valuation  

Weighting Solutions   Weighted Averages

      A B C   A B C

Comparables $241 X 33.30% 40% 50% = 80 96 121

Net Present Value $451 X 33.30% 30% 20% = 150 135 90

Real Options $478 X 33.30% 30% 30% = 159 143 143

     Weighted Total per

Solution   390 375 354

      Average   373

Perspectives of various Perspectives of various stakeholdersstakeholders

Employees of Grand Junction: were Employees of Grand Junction: were not in favor of an acquisition strategy.not in favor of an acquisition strategy.

VCs are favorable in the acquisition VCs are favorable in the acquisition since they will receive a fair value for since they will receive a fair value for their interests as well as immediate their interests as well as immediate liquidity.liquidity.

Management is favorable of an Management is favorable of an acquisition because they want the acquisition because they want the technology to succeed.technology to succeed.

ConclusionsConclusions

Final Valuation = $373 millionFinal Valuation = $373 million(Range : $354 million and $390 (Range : $354 million and $390 million)million)

Grand Junction should accept the Grand Junction should accept the final Cisco offer of $346 Mfinal Cisco offer of $346 M