Private Company Valuation

In this tutorial, you'll learn how private companies are valued differently from public companies, including differences in the financial statements, the public comps, the precedent transactions, and the DCF analysis and WACC.

Get all the files and the textual description and explanation here:

Table of Contents:

1:29 The Three Types of Private Companies and the Main Differences

6:22 Accounting and 3-Statement Differences

12:04 Valuation Differences

16:14 DCF and WACC Differences

21:09 Recap and Summary

The Three Type of Private Companies

To master this topic, you need to understand that "private companies" are very different, even though they're in the same basic category.

There are three main types worth analyzing:

Money Businesses: These are true small businesses, owned by families or individuals, with no aspirations of becoming huge. They are often heavily dependent on one person or several individuals.

Examples include restaurants, law firms, and even this BIWS/M&I business.

Meth Businesses: These are venture-backed startups aiming to disrupt big markets and eventually become huge companies.

Examples include Kakao, WhatsApp, Instagram, and Tumblr – all before they were acquired.

Empire Businesses: These are large companies with management teams and Boards of Directors; they could be public but have chosen not to be.

Examples include Ikea, Cargill, SAS, and Koch Industries.

You see the most differences with Money Businesses and much smaller differences with the other two categories. The main differences have to do with accounting and the three financial statements, valuation, and the DCF analysis.

Accounting and 3-Statement Differences

Key adjustments might include "normalizing" the company's financial statements to make them compliant with US GAAP or IFRS, classifying the owner's dividends as a compensation expense on the Income Statement, removing intermingled personal expenses, and adjusting the tax rate in future periods.

These points should NOT be issues with Meth Businesses (startups) or Empire Businesses (large private companies) unless the company is another Enron.

Valuation Differences

The valuation of a private company depends heavily on its purpose: are you valuing the company right before an IPO? Or evaluating it for an acquisition by an individual or private/public buyer?

These companies might be worth very different amounts to different parties – they *should* be worth the most in IPO scenarios because private companies gain a larger, diverse shareholder base like that.

You'll almost always apply an "illiquidity discount" or "private company discount" to the multiples from the public comps; a 10x EBITDA multiple is great, but it doesn't hold up so well if the comps have $500 million in revenue and your company has $500,000 in revenue.

This discount might range from 10% to 30% or more, depending on the size and scale of the company you're valuing.

Precedent Transactions tend to be more similar, and you don't apply the same type of huge discount there for larger private companies.

You may see more "creative" metrics used, such as Enterprise Value / Monthly Active Users, especially for private mobile/gaming/social companies.

DCF and WACC Differences

The biggest problems here are the Discount Rate and the Terminal Value.

The Discount Rate has to be higher for private companies, but you can't calculate it in the traditional way because private companies
don't have Betas or Market Caps.

Instead, you often use the industry-average capital structure or average from the comparables to determine the appropriate percentages, and then calculate Beta, Cost of Equity, and WACC based on that.

There are other approaches as well – use the firm's optimal capital structure, create a giant circular reference, or use earnings volatility or dividend growth rates – but this is the most realistic one.

You use this approach for all private companies because they all have the same problem (no Market Cap or Beta).

You'll also have to discount the Terminal Value, but this is mostly an issue for Money Businesses because of their dependency on the owner and key individuals.

You could heavily discount the Terminal Value, use the company's future Liquidation Value AS the Terminal Value, or assume the company stops operating in the future and skip Terminal Value entirely.

Regardless of which one you use, Terminal Value will be substantially lower for this type of company.

The result is that the valuation will be MOST different for a Money Business, with smaller, but still possibly substantial, differences for Meth Businesses and Empire Businesses.

[nathancarranza]

Maybe most people are use to it already, but it does not cease to amaze me at the incredible education one can receive for absolutely no cost or very little. This channel is GREAT.

[marcelochaix]

I learn more from this channel than from my finance career at college

[Fayste]

Thank you for this great tutorial!
I'm interviewing for IB and PE at the moment, and your resources really help.
Cheers

[alexandervaltsev]

This is yet another great piece of finance education!

[bea_lopez]

This channel is helping my study for my final. Thank you 😊

[marcelokneese]

quite applicable fopr Middle Market M&A players

[RJFamilyZ]

Great video! I understand that you said valuation for "empire" business will be discounted less than say "Money" business or "Meth" business, but how do we estimate the discount %? And I assume that we are discounting for both TV and Enterprise value.

[annu]

How do you get forward year 1 and Forward year 2 revenue, EBITDA and NEt profit for public company ?

[gmoneylxp]

For DCF problems @16.56, i know not having beta is a problem as you can't calculate cost of equity using CAPM, but why is not having market capitalization a problem? Great vid

[annu]

@Mergers & Inquisitions / Breaking Into Wall Street  I have one more question. I was using this model for a canadian company but unfortunately there is no listed competitor in canadian stock exchane. So i used US based company for comparatives. In that case should i use risk free rate, market premium and cost of debt etc for canadian market or us based market ?

[tyeweaver]

I'm having a bit of trouble understanding why we wouldn't discount the precedent transaction multiples when valuing a private company. I get why we do discount the public company comps, since private companies are less liquid than public ones. By why would we not discount the precedent transactions multiples?

[tangpingtao]

Do bankers use templates for modeling or they have to do everything from the scratch? For example, do they calculate Betas manaully or just connect the excel to Capital IQ?

[markjimmy]

In calculating debt to equity ratio, should the equity be balance sheet figure or market value?

[anhquaranta]

How do you determine the different multiples such as maximum multiple, 75th percent multiple as indicated in the ValSum tab of the workbook that you have for this video? Do you have a video explaining the methodology that you used to determine the multiples? Also, do you use the discount method and terminal value method to arrive at 2 different valuations and compare the final result from each method with each other? What is the point of determining terminal value method in private company valuation? Thanks you so much for your help!

[naturalproductscoconutoil]

What do you mean by "Normalize the categories"? Converting them to GAAP?

[ayusharora]

How can we calculate private co. Unleveraged beta using a industry's levered beta ???

[corporate-fugitive]

What would be the general EV or Mkt Cap range of a 'Meth' business compared to an ' Empire' business?

[Ice-qqor]

Is there anyway I can get a copy of the excel spreadsheet you used in the video?

[borimapa]

what is the work flow involved in valuing a mining company that is not listed on the stock exchange?

[alekxu]

Hi, great videos thank you. Just one quick point, 17:00 what do you mean by 'median "total" unlevered beta' of 1.93? How did you calculate it? Thanks!