Tell me more ×
Answers OnStartups is a question and answer site for entrepreneurs looking to start or run a new business. It's 100% free, no registration required.
up vote 5 down vote favorite
2

I've recently been approached by a potential partner to buy a piece of custom software that I have written, and I'm struggling with a way to value the software. They would like to buy the source code outright, and then also pay royalties on what they have sold. I'm OK with this, but they have also asked me to provide my expectations around price and royalty percentage. They also hope to hire me as a consultant to add functionality to the application, so there will be more income as more features are put in.

Another challenge is that we are going to be changing the pricing model from a perpetual (flat) price to a monthly license fee price, and we're not sure how to price it. We hope to enter an agreement and then approach their customers to come up with a price. I've asked them for some projectioons on number of users, and let's assume that we can put together a rough estimate of monthly revenue. (I don't have this rough number yet, still waiting on details from the partner)

So, I've come up with this plan of attack, and I was hoping for insight here or suggestions to a better way.

I know it took me so many hours to develop the software, and that price is $XX based on my rate to hire me to do it again. I think I can assume if they wanted to build this it would take them 1.5 to 2 times as long, because I have expertise in the area. So, we're 2 * $XX for a valuation.

Now, if I figured a 5x muliplier is reasonable (maybe a little high, but let's go for it). So, we're at 10 * $XX as a valuation.

I would expect to recover this amount through the purchase price and royalties. I'd like to recover this over 2 years, so I thought it would make sense to structure price and royalties over 2 years to match this. So, upfront price would be whatever is left unpaid to me after I have received project royalties. Now, if these numbers don't align in the end sensibly, we'll need to restructure, or my valuation is too high or low

Am I nuts? Any better suggestions?!

Thanks all!

share|improve this question

2 Answers

up vote 1 down vote accepted

If you put yourself in the buyer's shoes, it will helps you figure out what you can or can't charge for the software you built.

The buyer has several options he probably already considered.

1.- Build it

From scratch, with his development department or a team they will hire for that.

In that case they face two problems: time to market & cost and also uncertainty about the success of the project and all the annoying problems such as management.

UPDATE MAR 6: Build it has two major advantages over Buy it. They own the thing and therefore they don't have to pay you royalties and more importantly, they can decide to relicense it or even sell it, just like you are going to do!

2.- Buy it

  • You can provide them with an almost instantly time to market which is itself one of the biggest advantage you have.
  • You have a solution that works already.
  • You have the expertise they are looking for (that's why they want you as a consultant).
  • They expect that the cost will be less than what they would put in since they are asking for a license.

To set the price, you have to determine how much it would cost to build it from scratch in conditions described in build it.

Now my personal feeling is that you are in strong position.

If you keep full rights on the source code, I think you should propose a price under the estimation of build it and set a fair amount of royalties. I think between 3 to 5% of the MSRP price would be fair.

If lot of money is involved, I highly suggest you to hire a consultant and/or lawyer.

share|improve this answer
1  
Thanks Pierre. I will definitely bring an attorney into this. I was actually considering a higher amount of royalites, more on the basis of 20-30%, maybe even 50%. Of course, it's going to be based on what they decide to pay me up front. You mention that you'd keep the price under the cost of "build it." That makes a lot of sense, and is very helpful. Thanks. (It's so great to have a support system like this when you're a solopreneur). – Matthew Dorian Mar 5 '11 at 17:19
up vote 1 down vote

Matthew, you're not nuts, but more does come into consideration. 10 * $XX might be what it's worth, but does the potential client have the investment ready to cover that and still the necessary start-up fees for the modified business you are proposing? If so, and the return promises to be high, your buyer might be able to afford more than 10x.

I think you are taking the right direction by getting a fair value on your investment in time, and keeping some potential share of the success if your investor can bring you to a new level.

One thing I would caution on is what the buyer expects you to support and what they will pay you to maintain. Be sure to work with a lawyer over the contract and what your expectations are if you do not own the source code anymore.

share|improve this answer
Thanks Justin. I expect a part of negotiations to be an hourly rate they can pay me for supporting it as well. They've already indicated that they're quite a bit lower than my expectations, so this is something I'm going to need to keep an eye on. Huge thanks again! – Matthew Dorian Mar 5 '11 at 17:23

Your Answer

 
discard

By posting your answer, you agree to the privacy policy and terms of service.

Not the answer you're looking for? Browse other questions tagged or ask your own question.