A 409A valuation answers one narrow question: what is one common share worth today? Investors buy preferred shares with extra rights, so the price of your last round is not the answer. A 409A works its way from the value of the whole company down to a single common share, in three steps. Under IFRS 2, the same three steps give the share value that feeds the option model.
Step 1: Value the company
The valuer first estimates the equity value of the business, using one or more of:
- The backsolve. If you raised a priced round recently, the round price is the strongest evidence. The valuer works backwards from the price investors paid for preferred shares to the implied value of the whole company. For most venture-backed startups this is the anchor.
- The market approach. Revenue or earnings multiples from comparable listed companies or recent transactions, adjusted for your size, growth and risk.
- The income approach. A discounted cash flow, used when there is a credible forecast, usually for later-stage or profitable companies.
Step 2: Split the value between share classes
Preferred shareholders get paid first in a sale and often have other protections. The common shareholders get what is left. So the equity value is allocated across the share classes using one of three methods:
- Option pricing model (OPM). Treats each class as a call option on the company's value. It suits early-stage companies with no clear exit in sight, and it is the method behind the backsolve.
- Probability-weighted expected return method (PWERM). Models specific exit scenarios, such as a sale, an IPO or a wind-down, and weights them by probability. It suits companies with a visible exit path.
- Hybrid. Combines the two: PWERM for a near-term exit scenario, OPM for the rest.
A simpler current-value method is only acceptable when an exit is imminent or the company is very early.
Step 3: Apply a discount for lack of marketability
Common shares in a private company cannot be sold easily. The valuer applies a discount for lack of marketability (DLOM), usually estimated with option-based models such as the protective put or Finnerty methods, and cross-checked against market studies. The size of the discount depends mainly on how long until an expected exit and how volatile the business is.
The IFRS 2 step
A 409A stops at the value of a common share. IFRS 2 goes one step further and values the option itself at grant date, usually with a Black-Scholes or lattice model, using that share value plus the exercise price, expected term, volatility and the risk-free rate. The result sets the share-based payment expense in your IFRS accounts. The US GAAP equivalent is ASC 718.
What you will need to provide
- Articles of association, shareholder agreements and the full cap table, including options and convertibles
- The terms of your latest round and any secondary sales
- Historical financials and the current budget or forecast
- Your view of likely exit routes and timing
How long it takes
With the information ready, a typical 409A takes two to three weeks. Our team delivered one for a Series D travel platform in 12 days. Read the case study.
How iConsult can help
Our former Big 4 valuation specialists prepare 409A reports that US investors and auditors can follow line by line. Read why a 409A matters under UAE corporate tax, see our valuation services or book a free consultation.
This article is general information, not legal or tax advice. It reflects the rules as we understand them on the date shown; laws and guidance change, so check the current position or talk to us before you act.