Business Valuation Review Volume 34: Issue 2

I want to introduce you to MARKABLES, a new source for royalty rates for trademarks, trade names, brands, etc. (TM).

DISCLOSURE: After using MARKABLES several times, I accepted an invitation to serve on the advisory board of MARKABLES, for which I receive free downloads of data.

DISCLAIMER: The ASA does not endorse MARKABLES or any other specific product.

I often found myself trying to justify the median royalty rates observed from guideline licensing transactions for use to value my subject company’s TM assets. The resulting values just did not pass the smell test, so I typically used a rate at

At the beginning of Mr. Abrams' article, we are given this promise: “In this article, the author presents a method to reverse engineer the implied growth rates of the Guideline Companies and come to a rational, defensible weighting of methods.” He then claims that there is an upside bias in the Pratt's Stats database and offers an example based upon a single company in one industry to make his case. However, the earnings growth rate low margin/mean reversion bias/asymmetry discussed in the article skews his implied earnings growth results high. We have presented evidence based on a cross sectional, multi-period analysis of all of the relevant Pratt's Stats data that there is no significant bias in the Pratts's Stats private buyer database.

A contentious debate continues between the IRS, tax courts, and valuation professionals regarding the valuation of pass-through entities. Considerable diversity of practice has risen around the taxation treatment and benefit determination of pass-through entities when using cost-of-capital estimates derived from public equity markets. Lacking direct evidence of the cost-of-equity capital in a privately held entity, valuation practitioners often turn to the public equity markets for a cost-of-equity measure to use when applying income-based valuation methods. Over the years, valuation practitioners have adopted various pass-through entity adjustment models to reconcile the value of pass-through entities relative to public companies. However, many of the pass-through models currently in use do not consider all of the tax burdens that may be included in the publicly derived equity risk premium.

Following others, we review support for the notion that using public stock market returns to derive a cost-of-equity rate implicitly considers both the corporate and individual tax rates in those returns. We support the impact of tax clienteles on equity prices and that industry-specific tax expectations are also included in equity prices. We argue that pass-through adjustment models in use may misstate the taxation advantages of pass-through entities. We offer a formula to estimate the inferred tax rate on public equity investment and show how to adjust the cost of public equity when tax affecting using these inferred tax rate assumptions.

The Implied Private Company Pricing Line (IPCPL) model is a consistent market-implied approach to measure the cost of capital for private companies. Its key element is the cost of capital for the smallest private companies, derived from Pratt’s Stats information on the acquisition prices and the companies’ financials. When these companies were aggregated, they collectively appeared to be in a steady state, which allowed the authors of the IPCPL model to estimate the cost of capital from the Gordon formula. The purpose of this paper is to analyze the pricing of individual small privately held companies to check whether it is consistent with the two concepts: the IPCPL cost of capital and the finiteness of the competitive advantage period, which, other things being equal, should, over time, lead to the profit margin convergence to the market mean over time and companies with mean margin being valued as steady-state companies, while companies with margins lower (higher) than the market to be valued higher (lower) than predicted by the Gordon formula because of the margin reversion effect. The market valuation of individual small privately held companies proved to be consistent with both concepts. Companies with margins close to the mean were valued with price-to-sales (P/S) multiples consistent with the IPCPL cost of capital, and the valuations of the rest of the companies were in line with the margin reversion effect.¹

Editor’s Column

From the Chair of the Business Valuation Committee: New Source for Trademark, Trade Name, and/or Brand Royalty Rates

Pratt's Stats Data Are Not Biased; the DCF May Be, However

Pass-through Entities: A Tax Equivalent Method to Adjust the Cost of Equity

IPCPL and Margin Reversion: Implications for the Valuation of Small Privately Held Companies

Delaware Open MRI and the Van Vleet Model

Book Review

Overview

Book Review

Expanding an Appraiser's Toolbox With Credit Default Swaps

Volume 34, No. 2 — Complete Issue

From the Editor

Customer Concentration: Good, Bad, or Ugly?

From the Chair

Delaware Valuation Decisions, 2021 to 2024

Volume 44, No. 1 — Complete Issue