The price something would sell for in a normal market between willing parties. Used to value services, assets, or shares. For private companies, typically established through a 409A valuation.
Why it matters
Fair market value is the foundation for pricing stock options, calculating tax obligations, and valuing contributions in a dynamic equity model. Getting it wrong creates legal and tax problems. The IRS uses FMV to determine whether options were priced correctly and what taxes are owed.
How it works
For private companies, FMV is typically established through a 409A valuation performed by an independent appraiser. The appraiser considers comparable company transactions, the company's financial performance, and market conditions. For very early-stage companies with no revenue, the FMV of common stock is often a fraction of the preferred stock price due to the lack of liquidation preferences and other rights. For example, if preferred stock is priced at $1.00/share, common stock might be valued at $0.20-$0.30/share.
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