price of $50 will have substantial value, eventhough the
underlyingstockiscompletelyliquid.Thevaluehasnothing
todowithliquiditybutisapriceyouarewillingtopayfor
insurance.
70 Therationaleweuseisthattheownerofaprivatebusiness
isnot diversified and hasher entire wealthtied upin this
business.Consequently,sheisexposedtoalloftheriskinthe
company and not just the nondiversifiable risk. For more
details on this calculation, refer back to Chapter 2.
71 ThecostofequityforKristinKandyof16.26percentis
used as the expected return on the equity.
72 For simplicity, we assumed a normal distribution for
returnsandcomputedthecumulativeprobabilitythatreturns
wouldbegreaterthan 20 percentoverthenextyear.(Z=(20
− 16.26)/25 = 0.15, N(Z) = 0.5595).
73 The sample of several hundred venture capital funds
earned an annual average return of 15.7 percent over the
periodwhereastheannualaveragereturnwas11.7percenton
theS&P 500 overthesameperiod.VentureEconomicsdid
notadjustforrisk.Brokendownintoclasses,venturecapital
investments in early stage companies earned 19.9 percent
whereasinvestmentsinlatestageventuresearnedonly13.7
percent.
74 A fuller discussion of themodel is available in Z. C.
Mercer, The Integrated Theory of Business Valuation
(Peabody Publishing, 2004).
75 Intrinsic value = $1/(.09 − .04) = $20