What considerations are taken into account when estimating the value of a company?
We start with the purpose of the report as tax laws, accounting guidance, and transaction-based valuations all have different nuances. For example, Post-Money valuation only considers share count and money invested, whereas Fair Market Value considers the rights and preferences of the different share classes. Minority position valuation for financial statement reporting may encourage the consideration of lack of control, whereas tax-based valuation guidance does not. Court precedent for founder buy-out in certain states discourage the application of lack of marketability, whereas tax-based valuations encourage them.
Exit, Going Concern, or Liquidation:
We consider if the company is about to undergo a transaction through an exit (IPO, merger, or buy-out), if the company will continue to operate for the foreseeable future (“Going Concern”), or if a company will be unable to continue operation in the foreseeable future (“Liquidation”). This will determine what valuation methodologies are appropriate to apply.
Hierarchy of information:
Certain signals are a stronger indication of value than others. Depending on the Going Concern presumption, the purpose of the valuation, and the best practices outlined by the individual regulatory and reviewing body, we may select one or many different valuation methodologies, based on the valuation hierarchy:
- Open market transaction in an identical security of the Company.
- Recent or upcoming private financing in a security (stock or convertible debt) of the Company, or
- Financial signals (past revenue or profits, future revenue or profits, or current assets and liabilities), or
- Non-financial signals (product, team, IP, etc.).
As a simple example, lack of past revenue does not signify a lack of value (Instagram, circa 2010). Conversely, the presence of revenue does not signify the presence of value (Toys“R” Us, circa 2018).