Page 39 - FINAL CFA II SLIDES JUNE 2019 DAY 8

LOS 33.b: Describe uses of private business READING 33: PRIVATE COMPANYVALUATION
valuation and explain applications of greatest
concern to financial analysts – 3 reasons!
MODULE 33.1: PRIVATE COMPANY BASICS

Transaction-Related Valuations (when selling or financing)

1. Venture capital financing: If firm is in development stage, it might need this. To reduce risk, the capital is often provided in
rounds after the achievement of specific benchmarks known as milestones. Valuations are usually subject to negotiation
and are somewhat informal due to the uncertainty of future cash flows.
2. Initial public offering (IPO): A public sale of the firm’s equity increases its liquidity. Investment banks often perform IPO
valuations using the values of similar public firms as a benchmark.
3. Sale in an acquisition: Development-stage or mature private firms are often sold to generate liquidity for the owners.
Valuations are usually performed by both the firm and the buyer and are subject to negotiation.
4. Bankruptcy proceedings: Accurate valuation can help determine whether the firm should be liquidated or reorganized. If it is
determined that the firm can continue as a going concern, accurate valuation is important in its restructuring.
5. Performance-based managerial compensation: If a firm compensates employees with stock options, grants of restricted
stock, or employee stock ownership plans, accurate valuation is necessary for both accounting and tax purposes.

Compliance-Related Valuations
1. Financial reporting: Related to goodwill impairment tests in which units of a public firm are valued using private company
valuation methods. The reporting of stock-based compensation also requires accurate valuation.
2. Tax purposes: At the firm level, transfer pricing, property taxes, and corporate restructuring may necessitate valuations. For
individual equity owners, estate and gift tax issues may necessitate valuations.

Litigation-Related Valuations
1. Litigation-related valuations may be required for shareholder suits, damage claims, lost profits claims, or divorce settlements.