Cost of equity

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2x2equals4

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How do you compute the Cost of Equity for a private company ? For public CAPM is fine but I've always wondered about the private comps. Risk free rate + premium ?
 
cost of equity would be the same as of any other comparable company but an illiquidity dicount of 30% would be applied to arrive at the firm value
 
There's a few different ways to go about it. My firm usually uses Ibbotson's yearbook to use a build-up approach to CAPM. They give premiums that are recommended for size, industry, etc. that can be added to the market risk premium.
 
Thnx for ur replies. But in case of the CAPM or the build-up model how would you go about estimating Beta? Can we safely assume that the MRP could be applied to valuing a private company ?
 
Personally I don't know exactly. I imagine that a private company should NOT be compared with the MRP used in the CAPM, b/c investors are not opting from the private company for a market index. Investors in private companies have diff. characteristics than your typical "market player" Sry can't be of more help
 
Well the correct beta for the private company can be estimated using the pure-play method (CFAI vol 4 reading on WACC) and then they suggest using the same MRP as the publicly traded company. I think most of the risks for those companies will be the same so its safe to assume their MRP will be comparable.
 
@sa.86- Bingo...

@OP-Another option is adding on an illiquidity discount as suggested. Now, the extent of this discount is debatable.

Regarding the beta, it would have to be adjusted as the beta indicates the covariance of the stock to the market index/rest of market. Hence you'd have to downward adjust the beta in my opinion...a more precise way to arrive at the beta would be by unlevering and relevering(pureplay).
 
Use pure play method for beta. I usually average the Yahoo and Google Finance betas for the public comps, then unlever and relever.
 
steph96 Wrote:
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> Use pure play method for beta. I usually average
> the Yahoo and Google Finance betas for the public
> comps, then unlever and relever.


Interesting steph, thanks for the tip!
 
It seems like a lot of times Yahoo and Google betas vary quite heavily from each other and from a beta you can pull from Bloomberg. You may want to calculate it yourself to arrive at a beta closer to/the same as Bloomberg. (2/3*Regression Beta + 1/3*1)
 
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