Meaning
Financial assessment based on the price at which an asset would change hands between a willing buyer and a willing seller provides an objective measure of worth. A market rate valuation uses comparable transactions and industry benchmarks to determine the current price of a company. It governs the pricing of stock options and buyouts.
The boundary is found where specialized assets have no active market for comparison.
Fair Exchange
Transparency in pricing prevents the misallocation of resources during a sale or investment. Obtaining a market rate valuation ensures that both parties are operating with the same information. It protects the receiver of shares from overpaying and the company from undervaluing its assets.
Valuation Methodology
Professional appraisers apply multiple models to arrive at a defensible figure. The market rate valuation often incorporates discounted cash flows and multiples of revenue. These calculations require accurate financial data from the past several years.
The cost of this analysis is a fee paid to external experts for their independent opinion.
External Validation
Regulatory bodies require an arm length assessment to prevent tax evasion or fraud. A documented market rate valuation provides a safe harbor for directors when setting the price of new shares. It removes the subjectivity that often clouds the judgment of founders.
The result is a figure that can withstand the scrutiny of auditors and investors.
