FAQ

There are three key steps. The first is to determine the market value of either a share class (for example, the price per preferred share issued in the last funding round) or the company as a whole.

Once that value is set, two possible discounts must be calculated:

• Liquidation preference discount: measures the value gap between ordinary shares and preferred shares that carry a liquidation preference (the right to be paid first in an exit, up to a multiple of the amount invested).
• Discount for lack of marketability: adjusts the value of an ordinary share to reflect the illiquid, minority position of stock option holders, who may face more restrictions on selling their shares.

To calculate the liquidation preference discount, three financial methods are commonly used:

1. Option pricing method: the most widely used, and almost always the choice for companies targeting an exit more than three years out. It uses the Black-Scholes formula to estimate how value could change over that horizon, taking into account time to exit, the risk-free rate and sector volatility. Call options then allocate the price per share across share classes according to the liquidation preferences.
2. PWERM (probability-weighted expected return method): models several exit scenarios, each weighted by its probability.
3. Current value method: treats the company’s current valuation as its exit value, regardless of the expected time to exit.

The discount for lack of marketability is also calculated with Black-Scholes, using the protective put approach: it measures the value gap between an illiquid security and the same security made liquid by a put (an option to sell).

Unlike in the United States and the United Kingdom, French companies aren’t required to get a valuation. They still have to justify the strike price, though, or risk a reassessment by the tax authorities, with tax and social-security consequences.

There’s no required form of evidence, but the tax authorities see a valuation report as persuasive in an audit.

Many clients spent years setting strike prices with no discount, or with flat discounts capped at 20% of the last round’s price. Moving to fair market value, which is lower, makes earlier plans obsolete and creates unfairness between employees.

The law is clear: the strike prices of existing plans can’t be changed. The only solution is to cancel and replace the old plans. Companies can grant new stock options at today’s fair market value while keeping the original vesting schedule. Employees get a lower strike price, at fair market value, and keep the same number of vested stock options.

In France, valuation isn’t a regulated profession, so check providers’ expertise carefully: make sure they have real experience valuing stock options and fully understand both the tax issues and how venture capital works.

Sovalue specializes in valuing stock option strike prices. Our team has trained to meet US requirements and produces 409A reports. It brings together appraisers, investment advisers, lawyers and tax specialists focused on venture capital.