Page 41 - FINAL CFA II SLIDES JUNE 2019 DAY 8

LOS 33.d: Explain the income, market, and asset-
based approaches to private company valuation READING 33: PRIVATE COMPANYVALUATION
and factors relevant to the selection of each
approach. MODULE 33.1: PRIVATE COMPANY BASICS

1. Income approach: Values a firm as the present value of its expected future income. Such valuation may be based on a
variety of different assumptions and variations.

2. Market approach: Values a firm using the price multiples based on recent sales of comparable assets.

3. Asset-based approach: Values a firm’s assets minus its liabilities.

MODULE 33.2: INCOME-BASED VALUATION

LOS 33.e: Explain cash flow estimation issues related to private companies and adjustments required to estimate
normalized earnings.

Estimating Normalized Earnings -exclude nonrecurring and unusual items:

Private firms have a concentrated control, hence look for discretionary or tax-motivated expenses that need to be adjusted.

• Expenses may be inflated/earnings artificially low:

• Excessively high owner compensation or of personal expenses charged to the firm. These expenses will also affect the
firm’s tax expense.
• Use of company-owned assets (e.g., aircraft, personal residences, company-provided life insurance, loans for
managers/owners) potentially require an adjustment to earnings.

• On the other hand, if a firm is performing poorly, the owners may be receiving compensation below market levels.