Analysts from Grant Thornton and the AICPA cheap stock task force defend Black-Scholes

BVWireIssue #89-2
February 10, 2010

BVWire’s  “Does Black Scholes overvalue early-stage companies” (BVWire™ #88-3) and an article by the same name in the January 2010 BVUpdate brought many responses—including a particularly thoughtful one from Grant Thornton’s Scott Beauchene and Stillian Ghaidarov. They refute the concern that “the Black-Scholes Option Pricing Model (BSOPM) cannot be used due to the perceived differences in the distribution of outcomes compared with observed outcomes in venture databases,” and ultimately find that “lognormal distributions are not a reason to conclude that the OPM overstates common stock values.” They also provide a succinct overview of the lognormal model for asset prices, its foundation as well as the model’s implicit, theoretical “failure” and “success” probabilities. The alleged critique of the BSOPM “does not present a strong argument to completely abandon it,” the authors conclude. “To paraphrase a famous saying, all models are wrong but some are useful, and the BSOPM remains a valid and useful model for the equity allocation of early-stage companies.”

Their response—which includes input from Dave Dufendach and Neil Beaton along with select members of the AICPA’s current task force on cheap stock, appears in the next (March 2010) Business Valuation Update™.

Beaton is also the author of the just-published BVR’s Guide to Valuations for 409A Compliance, which contains a complete chapter on the application of acceptable pricing methods, including the current value method and all option pricing models, case studies and the application of discounts and other key adjustments. For an overview of the Guide, check out the table of contents.

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