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Business Valuation Update
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Vol. 16, No. 12, December 2010
Using the Butler Pinkerton Calculator: A Case Study
By Andrew M. Malec, Ph.D.
In our valuation practice, we often find ourselves
valuing privately held companies where
the investor and the pool of likely buyers for the
investment are not well-diversified. We have
found the Butler Pinkerton Calculator (BPC) to
be a great tool in developing a required rate of
return for such an investor.
The BPC allows the valuation analyst to determine
the required rate of return on equity for a
privately held company by identifying a set of
publicly traded companies that are comparable
to the subject company, and hence, utilize market
information from those guideline companies to
objectively calculate the systematic and unsystematic
risk of those publicly traded stocks.
We have found this information useful in developing
the cost of equity for a privately held
company because the aforementioned calculator
provides market data for the unsystematic
risk premium, as opposed to utilizing a size
premium and subjectively adding a companyspecific
risk premium (CSRP) in a Modified
CAPM, or subjectively applying a CSRP using
a build-up approach. The BPC computes Beta
(systematic risk), as well as Total Beta (systematic
and unsystematic risk) for each of the guideline
companies. Given a size premium, the BPC
can also compute a market derived CSRP for
each of the guideline companies for which an
analyst could consider in determining the CSRP
for the privately held company. Instead of simply
subjectively adding a CSRP, a valuation analyst
can un-lever and re-lever the median CSRP to
estimate the CSRP by using a method such as
the Hamada equation. An analyst might ask the
question, “Can one disaggregate unsystematic
risk between size considerations and other
company-specific events” Even if there is some
overlap, the analyst has to evaluate whether estimating
the CSRP using market data, controlling
for size, is better than a wild guess, as noted in
the following court cases:
Gesoff v. IIC Industries:
This court has also explained that we have been
understandably . . . suspicious of expert valuations
offered at trial that incorporate subjective
measures of company-specific risk premia,
as subjective measures may easily be
employed as a means to smuggle improper
risk assumptions into the discount rate so
as to affect dramatically the expert’s ultimate
opinion on value.
Delaware Open MRI Radiology Associates v.
Howard B. Kessler, et al.:
To judges, the company specific risk
premium often seems like the device experts
employ to bring their final results into line
with their clients’ objectives, when other
valuation inputs fail to do the trick.”
In our practice we use a modified capital asset
pricing model, build-up model, BPC, Duff &
Phelps, LLC Risk Premium Reports, and data from
the Ibbotson SBBI Valuation Yearbooks. Even if a
valuation analyst doesn’t use the BPC in deriving
the cost of equity for a privately held company, an
analyst would find it very helpful to see the marketdetermined,
stand-alone required rates of return for
the publicly traded companies to compare against
the estimated required rate of return on equity for
the subject company. For example, if a valuation
analyst is estimating the required rate of return on
Reprinted with permission from Business Valuation Resources, LLC
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Using the Butler Pinkerton Calculator: A Case Study
Business Valuation Update
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equity for a privately held company for an undiversified
investor at 15% and the BPC is showing
that the total cost of equity is 23% for an undiversified
investor, then the analyst needs to ask if the
investment in the subject company should be less
riskier than that of a publicly traded stock. It may
mean that the analyst is not properly capturing the
required rate of return on equity. We have found
the ability to benchmark the stand-alone, required
rates of return of the publicly traded companies,
and the resulting Total Beta calculation, a valuable
tool in our practice and in supporting our cost of
equity estimates.
For example, we recently valued a company in
the automotive industry where we utilized a buildup
method and a modified capital asset pricing
model to estimate the cost of equity and utilized
the market-derived CSRP from the BPC for our
estimate of the subject company’s CSRP. Since
our CSRP estimate was based on the guideline
companies and objectively determined, as
opposed to subjectively derived, we felt that our
CSRP estimate was reasonable. We also wanted
to ensure that we could address any overlay in
the size premium and the CSRP, so we also utilized
Total Beta to estimate the cost of equity,
calculating similar results. Finally, the median and
average total cost of equity from the guideline
companies was consistent with our required rate
of return estimate, suggesting our cost of equity
estimate was reasonable and provided a “gut
check” on our analysis and a test of reasonableness
to parties involved in the matter.
The BPC does not purport to be the “end all”
in calculating the cost of equity, but presents
another economic model for the analyst to consider
in estimating such cost. In our opinion, the
BPC is a tool that all valuation analysts should
have in their toolbox.
Andrew M. Malec, Ph.D., is managing director of
valuation, litigation advisory & forensic services
at Gordon Advisors PC inTroy, Mich.
Reprinted with permissions from
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2 Business Valuation Update December 2010