We have provided an overview of key elements of private company valuation and contrasted public and private company valuations.
■ Company- and stock-specific factors may influence the selection of appropriate valuation methods and assumptions for private company valuations. Stockspecific factors may result in a lower value for an equity interest in a private company relative to a public company.
■ Company-specific factors in which private companies differ from public companies include: ● stage in life cycle; ● size; ● overlap of shareholders and management; ● quality/depth of management; ● quality of financial and other information; ● pressure from short-term investors; and ● tax concerns.
■ Stock-specific factors that frequently affect the value of private companies include ● liquidity of equity interests in business; ● concentration of control; and ● potential agreements restricting liquidity.
■ Private company valuations are typically performed for three different reasons: transactions, compliance (financial or tax reporting), or litigation. Acquisitionrelated valuation issues and financial reporting valuation issues are of greatest importance in assessing public companies.
■ Different definitions (standards) of value exist. The use of a valuation and key elements pertaining to the appraised company will help determine the appropriate definition. Key definitions of value include ● fair market value; ● market value; ● fair value for financial reporting; ● fair value in a litigation context; ● investment value; and ● intrinsic value.
■ Private company valuations may require adjustments to the income statement to develop estimates of the company’s normalized earnings. Adjustments may be required for non-recurring, non-economic, or other unusual items to eliminate anomalies and/or facilitate comparisons.
■ Within the income approach, the FCF method is frequently used to value larger, mature private companies. For smaller companies or in special situations, the capitalized cash flow method and residual income method may also be used.
■ Within the market approach, three methods are regularly used: the guideline public company method, guideline transactions method, and prior transactions method.
An asset-based approach is infrequently used in valuing private companies. This approach may be appropriate for companies that are worth more in liquidation than as going concerns. This approach is also applied for asset holding companies, very small companies, or companies formed recently that have limited operating histories.
■ Control and marketability issues are important and challenging elements in the valuation of private companies and equity interests therein.
■ If publicly traded companies are used as the basis for pricing multiple(s), control premiums may be appropriate in measuring the total equity value of a private company. Control premiums have also been used to estimate lack of control discounts.
■ Discounts for lack of control are used to convert a controlling interest value into a non-controlling equity interest value. Evidence of the adverse impact of the lack of control is an important consideration in assessing this discount.
■ Discounts for lack of marketability are often used in valuing non-controlling equity interests in private companies. A DLOM may be inappropriate if the company has a high likelihood of a liquidity event in the immediate future.
■ Quantification of DLOMs can be challenging because of limited data, differences in the interpretation of available data, and different interpretations of the lack of marketability’s effect on a private company.
■ DLOM can be estimated based on 1) private sales of restricted stock in public companies relative to their freely traded share price, 2) private sales of stock in companies prior to a subsequent IPO, and 3) the pricing of put options.