Common Valuation Issues - Digital Assets

Question 1

Pre-ICO investments / SAFTs (simple agreements for future tokens)

Answer 1

(1) Availability of information is limited. Can you get an investor update from the CEO.
(2) Should these be trended with the market? Goldman Sachs has pointed out that token prices are highly correlated, despite different use cases. Trending requires an understanding of the proposed token’s underlying technology and the underlying technology of other tokens. This may not be practical.
(3) SAFTS usually contemplate distributing tokens at a price discounted from the eventual ICO price. So, a drop (or rise) in the expected value of the token is offset by an increase (decrease) in the expected number of tokens to be distributed.
(4) Cost versus discounts. At Day 0, it seems reasonable to rely on the arm’s length transaction price. What about at Day 720. Should these be written down to zero.
(5) Other solutions may include something akin to straight-line amortization or marking to zero immediately.

Question 2

Valuation inputs - exchanges vs. aggregators

Answer 2

(1) Auditors and regulators have reservations about using any of the current cryptocurrency exchanges as well as aggregators like coinmarketcap.com for pricing due to market manipulation concerns and KYC/AML shortfalls.
(2) A better solution has not been suggested to us to date.

Question 3

Clear rules for resolving differences in values for assets.

Answer 3

(1) Funds should establish robust valuation policies and procedures, with a valuation committee overseen by a board of directors.
(2) The valuation committee’s composition, voting requirements and procedures should seek to mitigate and resolve identified conflicts of interest.

Question 4

Adjustments related to:

(1) the size and liquidity of positions
(2) impact of market volatility.

Answer 4

(1) Fair value guidance (ASC Topic 820 and IFRS 13) says blockage discounts are not allowed, but liquid tokens are not publicly traded stock. Liquidity adjustments may be appropriate if there is no active market.
(2) Market volatility, or more precisely, expected price volatility, can be accounted for with a standard Black-Scholes protective put model. This may be considered when considering discounts for lack of marketability based on the cost to insure the subject asset against the risk of encountering lower prices after the restricted period.

Question 5

Appropriate time to close books / frequency for valuing assets.

Answer 5

Valuing level 3 assets should be completed as often as funds accept contributions or make redemptions.

Question 6

Conclusions

Answer 6

(1) Be conservative. There is an infinitude of models available for valuation, yielding very different conclusions. Like artists, crypto investors sometimes fall in love with their models, but most are of dubious value.
(2) Update valuation policies at least annually.
(3) Use a qualified third-party valuation expert.