Dealing with Marketable Securities in Valuation
Marketable securities can include corporate bonds, with
default risk embedded in them,and traded equities, which
haveevenmoreriskassociatedwiththem.Asthemarketable
securitiesheldbyafirmbecomemorerisky,thechoiceson
howtodealwiththembecomemorecomplex.Wehavethree
ways of valuing marketable securities.
- The simplest and most direct approach is to obtain or
estimate the current market value of these marketable
securitiesandaddthevaluetothevalueofoperatingassets.
For firms valued on a going-concern basis, with a large
numberofholdingsofmarketablesecurities,thismaybethe
only practical option. - The second approach is to estimate the current market
valueofthemarketablesecurities andnetouttheeffect of
capitalgainstaxesthatmaybedue ifthosesecuritieswere
soldtoday. Thisis thebest wayof estimatingvalue when
valuing a firm on a liquidation basis.
3.Thethirdandmostdifficultwayofincorporatingthevalue
ofmarketablesecuritiesintofirmvalueistovaluethefirms
thatissued thesesecuritiesand estimatethesecurity value.
Thisapproachtendstoworkbestforfirmsthathaverelatively
few, but large, holdings in other publicly traded firms.
ILLUSTRATION 10.5: Microsoft’s Cash and Marketable
Securities
Between 1991 and2000,Microsoftaccumulatedalargecash
balanceasaconsequenceofholdingbackonfreecashflows