Larry Levine (McGladrey) outlined the key valuation drivers for a fixed income security yesterday in his session “Valuing Illiquid Financial Securities” at the ASA/CICBV Business Valuation Conference.
1. Forecast of coupon payment–fixed or floating rate.
2. Consider financial impact of embedded options:
- Right to prepay, right to call;
- Right to convert into another security; and
- Interest rate floors or ceilings.
3. Assess impact of credit risk–risk and monetary impact of potential default.
4. Time to maturity.
5. Discount rate–required market derived yield for a security given its creditworthiness.
“One of the biggest challenges is the discount rate," Levine said, “With a large public company you can find the discount rate on Capital IQ. But for private companies there isn’t a similar database."