ASC 820 offers guidance on how to value illiquid assets. ASC 820 stands for Accounting Standards Codification 820, and is part of the Financial Accounting Standards Board’s (FASB) Generally Accepted Accounting Principles (GAAP) guidance.
ASC 820 classifies assets based on their level of liquidity. Level 1 assets are the most liquid, for example, a stock traded on NASDAQ. Level 3 assets are the least liquid, for example, preferred stock in a private VC-backed company.
Why you need an ASC 820 valuation
Do I need an ASC 820 valuation?
As a venture capital firm, hedge fund, private equity firm, or insurance company, valuing your portfolio or liabilities can be challenging when they don’t have an active market or easily identifiable market value. US GAAP requires fair value measurement for financial reporting. These financial reports on holdings must be shared with investors (i.e. limited partners) and creditors. ASC 820 valuations help VCs prepare these reports.
At Carta, we help venture capitalists measure the value of the private companies in their portfolios with ASC 820 valuations. This post will cover the basics of ASC 820 and why ASC 820 matters.
Fair value measurement according to ASC 820
To value each company in a VC’s portfolio, there are two steps in the valuation process. First, an ASC 820 provider, like Carta, calculates an enterprise value for the company. Next, they allocate that value across individual shares, based on the capital structure.
Step 1: Calculate the enterprise value of the company, in one of three ways:
- Income approach: Also known as a discounted cash flow or capitalized cash flow analysis, the income approach is typically used for more mature companies that are already generating positive cash flows or that will be transitioning to profitability in the near term.
- Market approach: This method looks at market indications of the value of the company, using the option pricing model (OPM) backsolve, post-money valuation method, or comparing multiples for comparable publicly-traded companies.
- Asset approach: This method is most appropriate for companies whose main value is derived from a simple set of assets with low volatility.
Step 2: Allocate value across all share classes for each portfolio company, in one of three ways:
- Waterfall: This method considers the rights and preferences of the equity holders and is most appropriate if there is near-term visibility to an acquisition.
- Option pricing model (OPM): Similar to the waterfall method, except that the OPM considers volatility and time to exit.
- Common stock equivalent (CSE): CSE moves away from the consideration of rights and preferences and allocates value equally between shares, regardless of class. If an analyst uses the post-money valuation to calculate the enterprise value, they should typically use the CSE method to allocate that value.
The best way you can insure your ASC 820 valuation is done properly is to choose a reputable and experienced provider, like Carta. In addition to ASC 820 valuations, Carta also offers products and services like fund administration.
Or, to learn more about ASC 820, watch the panel below hosted by Stephanie Wittrock.
DISCLOSURE: This communication is being sent on behalf of Carta Valuations, LLC, an affiliate of eShares, Inc. dba Carta, Inc. (“Carta”). Certain transactional fees may apply. This communication is not to be construed as legal, financial or tax advice and is for informational purposes only. This communication is not intended as a recommendation, offer or solicitation for the purchase or sale of any security. Carta does not assume any liability for reliance on the information provided herein.