How to Value Shares In a Private Company

📊 The Fundamental Challenge of Private Valuation

The primary hurdle in valuing a private entity is the absence of price discovery. In a public company, the market tells you what a share is worth based on millions of trades. In a private company, the value is theoretical until a transaction actually occurs. This creates a need for "proxy" data—using the performance of similar public companies and adjusting those figures to fit a smaller, private context.

The Liquidity Discount

One of the most critical concepts in private valuation is the Illiquidity Discount. Because a shareholder cannot simply click a button and sell their shares on an exchange, the shares are inherently less valuable than an identical stake in a public firm. This discount can range anywhere from 10% to 50% depending on the company’s restrictions on share transfers.

Information Asymmetry

Private companies are not required to disclose as much financial information as public ones. This lack of transparency means that any valuation is only as good as the data provided. An accurate valuation requires deep access to balance sheets, profit and loss statements, and cash flow forecasts.

• Marketability: Private shares lack a ready market, decreasing their immediate cash value.
• Transparency: Limited public filing requirements can hide potential liabilities or "off-book" assets.
• Transfer Restrictions: Articles of Association often contain "pre-emption rights," forcing sellers to offer shares to existing members first.
• Valuation Timing: Values can fluctuate wildly between investment rounds based on investor sentiment rather than fundamentals.

🔍 Primary Valuation Methodologies

Depending on the nature of the business—whether it is a startup, a property holding company, or a mature consultancy—different methods will yield more accurate results. Professionals rarely rely on just one; instead, they use a "weighted average" of several approaches.

The Asset-Based Approach

This method focuses on the Net Asset Value (NAV). You essentially calculate what would be left if the company sold everything it owned and paid off all its debts. It is the "floor" value of the company. This is most common for property investment firms or manufacturing companies with significant machinery and stock.

The Earnings-Based Approach (P/E Ratio)

This is the most common method for trading companies with a history of profit. You take the company’s post-tax profit and multiply it by a Price-to-Earnings (P/E) ratio. For example, if a company makes £100,000 in profit and similar companies in the sector have a P/E ratio of 5, the company might be valued at £500,000. Learn more about understanding business profits for better calculations.

The Entry Cost Method

Sometimes, a buyer looks at how much it would cost to build the business from scratch. This includes the cost of recruiting staff, developing products, and acquiring a customer base. If it would cost £1 million to replicate the business, that becomes a benchmark for its current valuation.

• Tangible Assets: Includes cash, property, inventory, and equipment.
• Intangible Assets: Includes brand reputation, patents, and "goodwill."
• Multiples: Using industry-standard multipliers (like 3x or 5x EBITDA) to estimate value.
• Liabilities: All outstanding loans, creditors, and tax obligations must be deducted from the gross asset value.

💡 Deep Dive: The Role of EBITDA

When investors talk about valuation, they often refer to EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization). This figure is used because it provides a "clean" look at the company’s operational profitability without the noise of accounting choices or debt structures.

Normalising Earnings

In many private companies, directors take high salaries or run personal expenses through the business to reduce tax. To get a true valuation, an accountant will "normalise" the earnings. This means adding back any excessive director pay or one-off expenses to show what the profit would look like under new ownership.

Sector-Specific Multiples

The "multiplier" applied to EBITDA varies by industry. A software-as-a-service (SaaS) company might command a multiple of 10x because of recurring revenue, while a local construction firm might only command 2x or 3x due to the volatility of project-based work. Keeping track of industry valuation trends is essential for accuracy.

• Add-backs: Adjusting the profit for non-recurring expenses.
• Recurring Revenue: Businesses with subscriptions are always valued higher than "one-and-done" sales models.
• Growth Rate: A company growing at 50% year-on-year will have a much higher multiple than a stagnant one.
• Debt Impact: High levels of corporate debt will significantly lower the final share price.

⚠️ Minority vs. Majority Stake Valuations

One of the biggest mistakes shareholders make is assuming that if the company is worth £1 million, a 10% stake is worth £100,000. In the private sector, this is rarely true due to the Minority Shareholder Discount.

The Power of Control

A 51% stake gives you control over the company’s daily operations. A 75% stake gives you the power to pass special resolutions. A 10% stake, however, gives you very little power—you cannot force a dividend payment or sell the company.

The Strategic Premium

Conversely, if a competitor wants to buy a specific 10% stake because it gives them total control of a market or access to a patent, they might pay a Strategic Premium, valuing the shares much higher than the mathematical formula would suggest.

• Control Premium: The extra value added to a stake that grants management power.
• Statutory Rights: Minority holders have basic protections under the Companies Act 2006, but these don't equate to financial value.
• Shareholder Agreements: Shareholder Agreements: These documents can override standard valuation logic by defining "fair value" in advance.
• Drag-Along/Tag-Along: Clauses that affect whether a minority holder is forced to sell or allowed to join a sale.

📈 When Do You Need to Value Shares?

Valuation isn't just for when you want to sell the business. There are several legal and fiscal "trigger events" that require a formal report from a specialist.

Share Option Schemes (EMI)

If you want to grant Enterprise Management Incentives (EMI) to employees, you must agree on a "strike price" with HMRC. This ensures that the employees are taxed correctly on any future gains. Failure to value these correctly can lead to a massive tax bill for the employee later on.

Inheritance Tax and Probate

When a shareholder passes away, their estate must be valued for Inheritance Tax (IHT) purposes. While Business Relief (BR) often reduces this bill to zero for trading companies, a formal valuation is still required to prove the shares qualify and to establish their value for the executors.

• Divorce Proceedings: Shares are considered marital assets and must be valued for the settlement.
• Internal Disputes: If a shareholder is being "bought out" due to a falling out, an independent valuation prevents litigation.
• New Investment: Before taking on venture capital or angel investment, a "pre-money valuation" must be established.
• Company Buybacks: If the company is using retained profits to buy back its own shares.

✅ Action Steps for Shareholders

If you are approaching a situation where a valuation is necessary, do not leave it until the last minute. The process of gathering data and negotiating a "fair" price can take months.

Step 1: Get Your Documentation in Order

Ensure you have three years of audited accounts, up-to-date management accounts, and a clear 12-month cash flow forecast. The more "certain" the data, the higher the valuation is likely to be.

Step 2: Define the Purpose

Are you valuing for HMRC, for a sale, or for internal planning? The "standard of value" changes depending on the purpose. A "Fair Value" for a divorce is different from a "Strategic Value" for a merger.

Step 3: Consult a Specialist

While DIY calculators exist online, they cannot account for the nuances of your Articles of Association or specific market conditions. Always engage a chartered accountant or a specialist business valuer. Check out our guide on choosing the right accountant for your needs.

• Review Articles: Check for any pre-defined valuation formulas in your company’s founding documents.
• Identify Peer Groups: List 3-5 similar companies (public or recently sold) to act as benchmarks.
• Address "Key Man" Risk: If the business relies entirely on you, document how it could survive without you to preserve value.
• Keep Records: Document the methodology used so it can be defended if HMRC audits the transaction.

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