October 2022
Most people know that business appraisers value interests in businesses such as common stock, preferred stock, member interests and partnership interests, but fewer realize that business appraisers also value other related assets such as corporate bonds, loans, employment contracts, goodwill and other intangible assets. Some of these assets that are often valued by business appraisers are fixed-income securities.
Fixed-income securities are defined by the Corporate Finance Institute as “a type of debt instrument that provides returns in the form of regular, or fixed, interest payments and repayments of the principal when the security reaches maturity. The instruments are issued by governments, corporations, and other entities to finance their operations. They differ from equity, as they do not entail an ownership interest in a company, but they confer a seniority of claim, as compared to equity interests, in cases of bankruptcy or default”.
The valuation of a simple fixed-income security, such as a corporate bond, is relatively straight-forward. Its value is the present value of the expected cash flows, discounted at an interest rate that is appropriate to the riskiness of the security. The interest rate charged on a fixed-income security is determined by both the general level of interest rates and the default premium specific to the entity issuing the instrument. Most fixed-income securities have a specific maturity date and a fixed value upon maturity.
More complex fixed-income securities may have features such as the ability to be called by the issuer, the ability to convert to stock and the ability to put it to the issuer. Option pricing techniques can be used to value these complex fixed-income securities.
The value of a simple fixed-income security goes up when interest rates decline and vice versa. The discount rate used to calculate the present value of the fixed-income security will vary depending upon default risk, with higher rates used for riskier bonds and lower rates for safer ones. Discount rates and values can be estimated by looking to similar publicly-traded bonds.
In summary, the value of a fixed-income security is the present value of the expected cash flows, both interest and maturity value, discounted at a rate that considers risk of non-payment and changing interest rates. Complex securities may require the use of option valuation techniques.
Relevant Court Cases
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In Re the Marriage of Chelsey E. Frank
and Michael E. Frank,
Supreme Court of the State of Montana,
DA 21-0259,
decided September 20, 2022
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In Re Estate of Steven G. Clark, et al.,
Nebraska Court of Appeals,
31 Neb. App 250,
filed August 9, 2022
Recent Business Valuation Articles
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“Understanding Bonds Pricing and the
Risks ‘My Name is Bond, James Bond’,”
by Nicholas Burgess,
posted October 17, 2022
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“Salience Theory and Corporate Bond Pricing,”
by Tse-Chun Lin and Yaoyuan Zhang,
last revised September 22, 2022
Recent Engagements
- Valuation of the class B common stock of a niche
recycler/manufacturer on a minority interest
basis for gift tax reporting purposes.
- Valuation of a 50% member interest of a
mostly real estate holding company on a
non-controlling interest basis for estate
tax reporting purposes.
- Valuation of the voting common stock of a
niche event planning firm on a controlling interest
basis for gift tax reporting purposes.
- Consulting regarding 100% of the common stock of
an HVAC sales and service company on a controlling
interest basis for potential sale purposes.
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