Valuation Discounts (DLOM / DLOC)

When performing valuations, part of our analysis includes whether and to what extend the portion of the entity being valued should be subject to discounts.  The two most common are the Discount for Lack of Control (“DLOC”) and the Discount for Lack of Marketability (“DLOM”).

Discount for Lack of Marketability

In the landmark case Mandelbaum (Bernard Mandelbaum, et al. v. Commissioner, T.C. Memo 1995-255), Judge Laro sets out ten factors that should be considered in applying a DLOM:

  • The value of a similar corporation’s public and private stock
  • An analysis of the Company’s financial statements
  • The Company’s dividend-paying capacity and payment history
  • The nature of the corporation, history, industry position, and economic outlook
  • Management
  • Degree of control transferred
  • Restrictions on transferability
  • Investor’s holding period
  • The Company’s redemption policy
  • Costs associated with a public offering of the stock

These items are often the basis for applying a DLOM.

Discount for Lack of Control

A controlling ownership interest is typically more valuable than a pro-rata share of a minority interest. This is because the minority owner does not have control over important business decisions like declaring dividends, determining compensation, setting policies and deciding to sell or liquidate. To account for this disadvantage, an appraiser can apply a discount for lack of control to a minority interest. Factors that may indicate control, or a lack thereof, include:

  • elect directors and appoint management
  • determine management compensation and perquisites
  • set policy and change the course of business
  • acquire or liquidate assets
  • select people with whom to do business and award contracts
  • make acquisitions
  • liquidate, dissolve, sell out, or recapitalize the company
  • sell or acquire treasury shares
  • register the company’s stock for a public offering
  • declare and pay dividends
  • change the articles of incorporation and bylaws

Example

$10,000,000 100% Enterprise Value (1,000 shares)
$3,000,000 30% Pro-rata Value (before discounts)
($690,000) Less: DLOC (23%)
$2,310,000                  Minority, Marketable Value
($680,300) Less: DLOM (30%)
$1,619,700                  Minority, Non-Marketable Value

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