Pre - IPO Valuation Question

I have a valuation question her and would greatly appreciate some advice!

The business I work (say ABC co) invested  \$1m into a cash-desperate pre-IPO company through a convertible loan (no coupons & not secured).  Upon IPO,  which is expected in 6 months, the loan is compulsorily convertible to shares at 50% discount to the IPO price (whatever the IPO price). In the case of the IPO not being successful, ABC will required to redeem the loan at 50% interest in 1 year.

Now its year end and I need to value ABC’s \$1m investment but I can’t seem to see the best way to value this as neither of the common valuation techniques are applicable.

In essence the value can either be \$2m at IPO (given 50% IPO discount) or \$1.5m in 12 months if the IPO is not success and ABC redeem the loan; or zero if the pre-IPO company liquidates at any time between these events.

Any ideas?

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You’ve outlined 3 different scenarios, now you just need to determine a value under each one and probability weight the various outcomes to conclude on the note’s value.  If IPO is most likely, that would receive the highest weighting, etc.

You must also consider the time value of money. For example, in the IPO scenario, the investor will receive \$2M, but that is a future event.  It’s also very likely that the shares receive at IPO will be subject to a lock-up period, so might also need to consider the volatility of the newly issued shares during that timeframe.  The TVM calc for the 1.5x scenario is obviously much simpler.

You didn’t mention when the loan was made, but if in close proximity to your valuation date, an assessment should be made comparing your calculated value to the original \$1M investment.  If (significantly) higher/lower, there should be logical explanations as to why.