A discount for lack of marketability (DLOM) reflects the reduced value of an ownership interest due to the difficulty of selling or liquidating that interest. It is commonly applied in the valuation of private company interests. Several key factors are considered when determining the appropriate DLOM:
- Type of Interest
- Minority vs. Controlling Interests – Minority interests generally suffer more from lack of marketability
- Transfer Restrictions – Are there shareholder agreements, buy-sell agreements, or legal limitations on transfers?
- Company-Specific Factors
- Size and Financial Strength – Strong, profitable companies may require a smaller discount
- Dividend Policy or Distributions – Regular distributions reduce investor risk and can reduce DLOM
- Cash Flow Predictability – Greater predictability typically lowers the DLOM
- Market and Transaction Factors
- Public Market Comparables – Lack of access to public markets increases the DLOM
- Holding Period for Exit – Longer expected holding periods increase the DLOM
- M&A Environment – A strong market for acquisitions can reduce the DLOM
- Owner/Investor Rights
- Put Rights or Redemption Rights – Reduce the DLOM because they offer an exit
- Registration Rights – For pre-IPO shares, rights to register securities can reduce DLOM
- Empirical Studies
- Valuators often reference:
- Restricted Stock Studies (e.g., SEC Rule 144 data)
- Pre-IPO Studies
- Option Pricing Models
- Tax Court Precedents and Valuation Practice
- IRS and court cases help shape what is “reasonable” based on similar past valuations
- Valuators may also apply quantitative models Like:
- Black-Scholes options-based approach
- Quantitative Marketability Discount Model (QMDM)
- Return on Investment for comparable investments