Financial forecast or Prospective Financial Information (PFI) is the key element of most business valuations. It is a numerical illustration, a distillation of the story that investors buy into. With that, valuation analysis is nothing more than a process of converting the expectations into hard reality of today’s market price.
Convertible debt is popular in financing start-ups. Just as preferred stock, convertible debt is designed to give investors certain economic and legal rights to elevate them above common stockholders. This article discusses convertible debt valuation issues and whether such transactions can be indicative of the issuer’s business enterprise value.
While stock options continue to lure enthusiastic professionals to start-up industries, the minimal liquidity of private company shares is weighing on the value of such compensation awards. Ever increasing pressure to transact in private securities gave rise to secondary markets where founders, executives, investors, and often employees get an opportunity to cash-out.
Earn-out arrangements are common in corporate acquisitions. Earn-outs may help smooth out bid-ask spreads or incentivize sellers to continue contributing to a newly combined entity. In certain situations, acquired entities face significant milestones where acquirer’s risk becomes prohibitive without some kind of hedging mechanism. Prevalence of earn-outs varies by industry.
Business valuation is often the first step in valuing private company securities, intangible assets or financial instruments. Both income and market-based approaches are important valuation tools, while practitioners find plenty of technical, philosophical and mythological reasons to emphasize one over the other.
In purchase accounting, valuation analysis begins with identifying intangible assets to be recognized apart from goodwill. The criteria for identifying these intangibles is set out in the FASB Accounting Standard Codification Topic 805, Purchase Accounting. The determinations are not always intuitive management’s guidance is critical, especially at the early stages of a project.
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