Public-Company Numbers on the Decline
In a recent article by Nicole Goodkind of CNN, it was reported that “America has lost half its public companies since the 1990s.”1 The number of public companies has dropped from 8,000 in 1996 to 3,700 in June 2023.2 The article continues by pointing out that part of the reason is that companies are increasingly staying private.
So how does this impact the business valuator? Let's start with the use of the market approach. Certainly cutting the population in half will have some impact on the reliability of the results. I am not a statistician, so my observations are those of a layman. To me, the use of the GPCM is brought further into question. Personally, I have never been a real fan of that method as it relates to the value of smaller businesses. Since we now, presumably, have half as many companies to choose from, it will be harder to find comparable public companies. To be fair, the selection of comparable companies has never really been a statistically significant exercise. It is in the judgment of the valuator.
But public-company data are used in other approaches and methods during the business valuation process. Betas3 are derived from public companies4 and act as modifiers of the general market risk of a subject company. When using the buildup method (BUM) instead of the MCAPM, the beta is eliminated and its risk factor is included in the specific company risk factor. There has been much criticism of the BUM method, but, upon closer look, the use of a beta (under the MCAPM) is really no more specific than a judgment call on including that risk in a BUM method.
Cutting the population of public companies in half simply exacerbates the problem of using betas from public companies. It's too easy to say that this questionable method is now questionable by half more. That, of course, is not statistically correct, but neither is their use in the first place.
1 Nicole Goodkind, “America Has Lost Half Its Public Companies Since the 1990s. Here’s Why,” CNN—Before the Bell; June 9, 2023; cnn.com/2023/06/09/investing/premarket-stocks-trading/index.html.
2 According to data from the Center for Research in Security Prices. I ran this article past Dr. Aswath Damodaran, and he indicated that he did not think there has been a significant drop in public companies. I am unable to verify these numbers.
3 Beta is a measure of systematic risk of a stock; the tendency of a stock’s price to correlate with changes in a specific index. (AICPA VS-100; Appendix B, International Glossary of Business Valuation Terms).
4 There is really no way to determine a valid beta from nonpublic companies because there is no database, such as is used in public-company betas.