Income Approach: Cost of Capital

This is a collection of some of Peter Butler's articles that have been published in various publications. Each is a PDF file that must be downloaded to view. (If you don't have a PDF reader, click here to download Adobe for free)

Title: Total Beta Debate

Abstract: Peter and Bob Dohmeyer provide a real world example of unsystematic risk and why it matters for the valuation of most privately-held companies. They also show the one simple and reasonable assumption as to why total beta is an excellent reference point for use in valuation of privately-held companies.

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Title: The Implied Private Company Pricing Line 2.0

Abstract: In this paper, we show that small privately held businesses are not priced according to the Capital Asset Pricing Model (CAPM) or Modern Portfolio Theory (MPT); outline the many highly problematic comparisons between publicly traded equity securities and small privately held businesses; and develop an Implied Private Company Pricing Line (IPCPL) based on market approach transactions in small privately held businesses as our means to eliminate these highly problematic comparisons and to use as an accurate starting point to develop a cost of capital for any privately held company.

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Title: Total Beta – The Way Forward

Abstract: In this response, Pete Butler highlights the common sense assumptions behind the use of the metric which captures total risk.

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Title: The Implied Private Company Pricing Line: Empirically Observing the Cost of Capital

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Title: Practical Evidence and Theoretical Support for Total Beta

Abstract: This article supports the modern portfolio theory behind total beta in four easy steps. It should put to rest any misguided assertions that total beta is a violation of financial theory. It also shows empirical evidence that total beta is a far better beta to use than CAPM beta for the valuation of private companies.

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Title: A Tale of Two Betas

Abstract: Applying modern portfolio theory, this article concludes that Total Beta stands head and shoulders above the CAPM beta and the build-up method—at least for the business valuation profession.

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Title: Company-Specific Risk - A Different Paradigm: A New Benchmark

Abstract: Even though, according to traditional financial theory, public markets do not price company-specific risk, it does not mean that it does not exist or is not quantifiable for public comparables. In all instances, the company-specific risk premium for publicly traded companies is greater than 0%—yet appraisers start their benchmark analysis at 0% to determine an appropriate company-specific risk premium for privately held companies. Is this a flaw in our collective thinking?

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Title: Quantifying Company-Specific Risk: A New, Empirical Framework With Practical Applications

Abstract: In this article, the authors have refined their earlier work by providing a detailed example of how to select a company- specific risk premium (CSRP) for a privately held company using benchmark CSRPs derived from guideline publicly traded companies.

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Title: Comparing the Butler-Pinkerton Model to Traditional Methods Under Four Daubert Criteria

Abstract: The U.S. Supreme Court's decision in Daubert v. Merrell Dow Pharmaceuticals (1993) set the current standard for admission of expert testimony pursuant to Rule 702 of the Federal Rules of Evidence. Daubert established four criteria to assess the relevance and reliability of an expert's scientific, technical, or other specialized knowledge. By applying the Daubert criteria, this article compares the BPM to the established, traditional, factor-based CSR models also known as the plus/minus prodecure, the numeric procedure, and the listing procedure. Historically, appraisers who have relied on these factor-models have not necessarily determined company-specific risk incorrectly. (In fact, before developing the BPM, we also used the traditional models.) We just believe the BPM is a better method and after reading this application of the Daubert requirements to all the methods, we hope you do, too.

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Title: The Butler Pinkerton Model: Empirical Support for Company-specific Risk

Abstract: We have been encouraging debate on the topic of company-specific risk (CSR) for over two years. While we welcome debate, there have been some recent criticisms of the Butler Pinkerton Model (BPM) that we believe mischaracterize the BPM and miss the technique’s ability to capture CSR. We wish to clarify a number of points so valuators better understand the BPM’s usefulness and application

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Title: Total Cost of Equity or Company-Specific Risk - A Better Use for the BPM?

Abstract: When determining the total cost of equity for your subject private company, should you focus directly on TCOE or on CSR? Does it even matter? (Like the “lite” beer in the advertisement— did you buy it because it tasted great, or because it was less filling, or both?) In a perfect world, no matter which output you focus on, you should arrive at the same answer for the TCOE for your private company.

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Title: Company-Specific Risk: The Dow 30 v. Private Company USA

Abstract: The focus of this article is to introduce additional empirical evidence to show that starting at a 0 percent CSRP for Private Company USA, and then either adding or subtracting points, is an incorrect process to properly quantify CSR.

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Title: There is a ‘New’ Beta in Town and it’s Not Called Total Beta for Nothing!

Abstract: When presenting the Butler Pinkerton Model™ (BPM) at various conferences across the country, we often ask audience members to define beta. Typically,a brave attendee responds that beta, “Measures the volatility of the stock relative to the volatility of the market.” This is the common perception of beta. Yet in reality, it does not adequately capture the relationship. To do this, you need the “new” beta in town - Total Beta - which fortuitously performs the calculation that so many of us thought, or think, beta performed.

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Title: Beta or total beta? The answer depends on the "Company' it keeps

Abstract: The theory behind total beta is capturing international attention if the following article which appeared in the Romanian Business Valuation Journal, ANEVAR, is any indication.

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