CFA Level II Exam · Private Company Valuation

Private Company Valuation Scope and Purposes for CFA Level 2

Updated 7 October 2026 · Fact-checked

Private company valuation estimates the value of a business whose shares are not publicly traded. It is done for transactions, compliance and reporting, and litigation. You solve it by identifying the purpose, choosing the matching standard of value (such as fair market value or investment value), and then adjusting for private-company features like illiquidity and limited information.

Understand Private Company Valuation Scope and Purposes

A public company has a quoted price every day. A private company does not. So someone must estimate its value using a model. That is the core of this topic: the value is an estimate, and it depends on why you need it.

The CFA curriculum groups the reasons into three broad areas:

Transactions: a private company being bought or sold, an IPO, a venture capital or private equity investment, a merger, a leveraged buyout, a management buyout, or a bankruptcy and restructuring.
Compliance and reporting: financial reporting (for example, fair value of acquired assets or impairment tests), tax reporting (gift, estate and property tax), and share-based compensation such as valuing stock options of a private firm.
Litigation: shareholder disputes, divorce settlements, damages claims, and other legal cases where a court or party needs a value.

Private company valuation differs from public company valuation in several ways. Information is limited and may be less reliable. Shares are illiquid, so there is no ready exit. The firm may depend heavily on one owner or a small management team. Owners may take personal expenses through the business or pay themselves above or below market pay. The capital structure and ownership stakes may be complex. Market data such as beta must often be borrowed from comparable public firms. Public valuation is mostly about finding mispricing against a market price. Private valuation often has no price to compare with.

The standard of value (also called the definition of value) states whose perspective the value reflects. Fair market value is the price at which a willing buyer and willing seller would trade, both informed and neither under compulsion, in a hypothetical market. Fair value depends on context: for financial reporting it is an exit price in an orderly transaction between market participants; for legal disputes it follows the relevant law and often does not allow minority or marketability discounts. Investment value is the value to a specific buyer, based on that buyer's own synergies, cost of capital and plans. Intrinsic value is the value an informed analyst estimates from fundamentals. Different standards can give different numbers for the same firm.

Key formulas to remember

Fair market value: Hypothetical price between a willing buyer and a willing seller, both informed, neither under compulsion; Generic, not buyer-specific. Used often for tax and many transactions.
Investment value: Value to a specific buyer = standalone value + buyer-specific synergies (and own required return); Can be higher than fair market value. Depends on the buyer.
Fair value (financial reporting): Exit price in an orderly transaction between market participants at the measurement date; Reporting definition. Legal fair value can differ by jurisdiction.
Three purpose categories: Transactions | Compliance and reporting | Litigation; Match the situation in the vignette to one category first.
Level of value link: Purpose → standard of value → level of value and discounts; The standard chosen determines whether control or marketability adjustments apply.

How to solve Private Company Valuation Scope and Purposes questions

Use this sequence for any scope, purpose or standard-of-value question in an item set.

1Read the vignette and underline who needs the value and why (sale, tax filing, court case, option grant, financing).
2Place the situation in a category: transaction, compliance and reporting, or litigation.
3Pick the standard of value that fits: fair market value, fair value, investment value or intrinsic value.
4Check whose perspective applies: a hypothetical market participant (fair market value) or one specific buyer (investment value).
5Identify private-company features given in the exhibit: illiquidity, limited data, key-person reliance, owner expenses, complex capital structure.
6Decide how those features affect the estimate (data adjustments, discount rate, discounts or premiums).
7Eliminate answer options that mix up the standards or ignore the stated purpose, then choose the best fit.

Quickest way: Purpose-first matching

When to use it: When a question asks which standard of value or which reason applies and you have under two minutes.

Find the keyword: sale to a named acquirer points to investment value; tax or generic market sale points to fair market value; audit or impairment points to reporting fair value; dispute points to legal fair value.
Ask: is the buyer specific? If yes, synergies matter and investment value is likely.
Ask: is the value hypothetical and market-based? If yes, fair market value.
Pick the option that matches and drop options that contradict the purpose.

Common mistakes in Private Company Valuation Scope and Purposes

Treating fair market value and investment value as the same thing.
Both are described as a price someone would pay.
Fix: Fair market value uses a hypothetical buyer and seller. Investment value uses one buyer's synergies and required return.
Saying a private company value is a quoted price that needs no estimate.
Students carry over public-market habits.
Fix: Private firms have no observable price. The value is a model estimate that depends on the purpose.
Assuming one value fits every purpose.
The word 'value' feels singular.
Fix: Purpose determines the standard, and the standard can change the number. Always state the purpose first.
Listing illiquidity as the only difference from public valuation.
It is the most memorable feature.
Fix: Also cover limited information, key-person dependence, owner expenses, complex ownership and borrowed market data.
Assuming legal fair value always allows minority and marketability discounts.
Students merge legal and reporting concepts.
Fix: Legal fair value follows the jurisdiction and often disallows such discounts. Treat it as context-specific.
Placing share-based compensation or impairment tests under litigation.
Students think only of transactions and courts.
Fix: These belong to compliance and reporting.

Worked examples

Example 1

Vignette: Altair Components, a private European manufacturer, is owned by two founders. A listed rival, Borealis plc, is considering buying it and expects cost savings by merging purchasing. Borealis asks an analyst for a value that reflects these savings. Separately, the founders' tax adviser needs a value for a gift of shares to a family trust. Q1: What standard of value suits Borealis? Q2: What standard suits the gift? Q3: Which purpose category is the gift?

Show the solution

Q1: Borealis is a specific buyer and the value includes its own synergies. That is investment value.
Q2: A gift for tax uses a hypothetical willing buyer and seller with no compulsion. That is fair market value.
Q3: Tax reporting falls under compliance and reporting, not transactions or litigation.

Answer: Q1: Investment value. Q2: Fair market value. Q3: Compliance and reporting.

Example 2

Vignette: Cedar Labs, a private firm, grants options to staff and must report their value in its accounts. The CEO's former partner is also suing, claiming the firm was undervalued when he left. The analyst notes that Cedar has no audited history beyond three years and depends on its CEO. Q1: Which purposes do the two situations represent? Q2: Which two private-company features does the analyst note? Q3: Why might the court value differ from a market-style value?

Show the solution

Q1: Stock option valuation is compliance and reporting. The partner's claim is litigation.
Q2: Limited information (short history, little audited data) and key-person reliance on the CEO.
Q3: Legal fair value follows the law of the jurisdiction and may not allow discounts such as minority or marketability, whereas a market-style value may include them.

Answer: Q1: Compliance and reporting; litigation. Q2: Limited information and key-person dependence. Q3: Legal fair value follows jurisdiction rules and may exclude discounts that a hypothetical market value would include.

Exam tips

Start every item set by writing the purpose in the margin. Most answers depend on it.
Watch for a named buyer with synergies. That signals investment value, not fair market value.
Expect scope questions to be embedded in larger valuation vignettes, so link the standard to the later choice of discounts.
Do not guess a legal rule from reporting definitions. Choose the answer that says legal fair value depends on jurisdiction.
There is no penalty for wrong answers, so answer every question.

Private Company Valuation Scope and Purposes in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Private Company Valuation Scope and Purposes: frequently asked questions

Why do we value private companies?

The main reasons are transactions (sale, IPO, buyouts, venture and private equity deals), compliance and reporting (financial reporting, tax, share-based pay) and litigation (disputes, divorce, damages). Each purpose may call for a different standard of value.

What is the difference between fair market value and investment value?

Fair market value is the price between a hypothetical informed willing buyer and seller. Investment value is the value to one specific buyer, including that buyer's synergies and required return. Investment value can be higher.

How does private company valuation differ from public company valuation?

Private firms lack a market price, have less reliable information, illiquid shares, key-person reliance and sometimes owner-related expenses in the accounts. Market inputs such as beta must often come from comparable public firms.

Is fair value the same in accounting and in court?

Not always. Reporting fair value is an exit price between market participants. Legal fair value follows the law of the jurisdiction and may not allow certain discounts.