Special Valuation Circumstances of Small Business. The major difficulty in applying the above methodology to small business loans is the absence of accurate measures of market value of the underlying stock. Because of the informal nature of the market for small-firm stock, published quotations are not reliable indicators of current stock values. Consequently, it is difficult to obtain the stock value input for, say, the Black-Scholes model. There are, however, several approaches open to the interested bank lender. For example, the lender and borrower could agree on an appraisal method to establish value from time to time. This could be used in connection with a "shadow warrant" or a "put" agreement as described earlier. The appraisal approach has a well-established precedent in tax court and bankruptcy proceedings. Another approach is essentially based on accounting measures of value. Under one approach, the cash over-ride, shadow warrant, or warrant may be based on net income or cash flow as reflected by the borrower's financial statements. A refinement of this approach, and one which has had particular appeal to lenders, is the linkage of equity participation to the change in value of some asset of the borrower. Mineral reserves, real estate, or securities held are examples of the type of assets usually involved. An analogy to this approach is found in the new home mortgages which give the lender a share in the appreciation of the mortgaged property in exchange for some consideration such as a reduced contract interest rate. </P> <P><PB REF="00000024.tif" SEQ="00000024" RES="600dpi" FMT="TIFF6.0" FTR="UNSPEC" CNF="606" N="23"> -23 - It seems clear that finance practice and theory offer techniques which are useful in placing a value on the EPA, even when the borrowing firm is one with privately held or thinly traded stock. This is by no means a claim that such estimation'is a trival problem. It is a suggestion that the problem is not totally insurmountable and is probably tractable with existing financial technology. r-MI I ---IV1 —~- ~-~-L1"--~C-~- 1- C~~I^I~CCCUW~-Y--)-~~-~C ---C* *-C-~l*lOr~-~~r-ll~ — ---— I - I- -~I --— UII~-~CIICI-rrm I.-rC ---rU~nrrrrr . ---Wu ------- --- r — --- </P> <P><PB REF="00000025.tif" SEQ="00000025" RES="600dpi" FMT="TIFF6.0" FTR="UNSPEC" CNF="875" N="24"> V. Application of EPA in Small Business Credit Up to this point we have argued that the use of EPA is quite within the legal and regulatory boundaries of bank lending and that the value of EP...
