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409a affected by private market transactions like Sharespost?

David Wu's Profile

 I was wondering if anyone had experience with how common share transactions for private companies on services like sharespost affect the valuations of common stock (e.g. 409a).  I've often seen deep discounts between the value of employee common options and preferred (even more so when the valuation is less than or close to the liquidation preferences), but I was wondering how the impact of higher volumes of transactions on private platforms like Sharespost affect these valuations.  It seems the pricing of the common stock in these cases is often closer or even at a premium to the current preferred stock.  Then again, I could rationalize that these are small amounts of shares exchanged and that they are not really indicative of the real valuation.  Thoughts or experience?


Topic Expert
Jim Timmins
Title: Managing Director
Company: Teknos Associates
(Managing Director, Teknos Associates) |

This is a good question and one which is not yet settled among valuation experts. In theory, a recent private market transaction in the stock of a company is a relevant data point to be considered in reaching a conclusion of value in an IRC 409A valuation report. But, in practice, there are many questions to answer before that data point can be considered reliable.

From the point of a view of a valuation specialist, there are a number of issues to analyze including: (a) what was the security which was traded (preferred stock is less relevant than common stock)?; (b) how long ago was the transaction and how large was it (old and small are less relevant than recent and large)?; (c) how much information about the company did the buyer and seller have (ex-employee with no current information or a naive buyer following a crowd are less relevant than a fully informed venture investment)?; and (d) was the seller under duress (financial distress caused by layoff or divorce?).

The answers to all of these must be considered in determining whether the private market transaction data is relevant to an IRC 409A valuation.

For example, consider the issue of adequacy and symmetry of information about the company. The definition of "fair market value" (relevant to a tax-compliant valuation under IRC 409A) and the definition of "fair value" (relevant to a GAAP-compliant valuation under ASC 718) both assume that the buyer and seller have access to an adequate amount of information about the company when the transaction is arranged. But, unlike the public market where companies regularly file lengthy disclosure documents with the SEC to provide current information, there often is little or no information about companies trading in a private market.

Some transactions involve enough information. The buyer may be a board member, with access to regular financial reports. And a few private companies have chosen to provide financial and other data in a dataroom and will grant access to that if the seller is in an approved class (e.g. an ex-employee) and if the buyer is on an approved list (e.g. a secondary fund enlarging its holding -- many private companies are worried about exceeding the limit of 500 private shareholders and have policies to consolidate shareholdings).

But in most cases, buyers are working with much less information and may have nothing more than some limited non-financial information from the company's website or even just the prices for other private transactions in the same company’s stock (a recent financing or other secondary sales). Obviously, the prices for these transactions are a lot less reliable than the prices for more informed transactions.

In the final analysis, the answer to the question is: it depends. It depends on the security traded, the timing and size of the trade, the adequacy and symmetry of information available, and the lack of duress.

Mark Stokes
Title: CFO
Company: Private
(CFO, Private) |

As these secondary markets for private shares become more common their products (the traded shares) will start to look more like regularly traded shares (minus the SEC and GAAP overhead, that is). As that happens, I can't help but think that regulators and tax authorities will start to consider transactions in these markets to be more and more similar to those of the managed markets like NASDAQ and others. Especially as transaction volumes increase, this may cause significant issues for companies and those providing valuations for them.

Lisa Davis
Title: Svp
Company: Aranca
LinkedIn Profile
(Svp, Aranca) |

BVResearch, a joint partnership between BVResources and Aranca, recently hosted an hour long panel discussion on secondary markets which can be viewed here:

The panelists included: a Partner from Grant Thornton, a Partner from Morrison Foerster, the Founder of Square 1 Bank, an SVP from Second Market, the CEO of First Mark Capital and the CEO of BVResources was the moderator. The panel represented the legal, valuation, banking and investment perspectives that a CEO/CFO should consider.

It was truly a stellar panel and had over 500 private company executives attending.


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