Chapter 9
Valuation Discounts and Premiums
Two of the fundamental tools used by valuation analysts are discounts, which reduce the value of interests in closely held businesses, and premiums, which increase the value of those interests. The courts have recognized the validity of discounts and premiums at the conceptual level for many years. Tax cases have generally shown an evolving sophistication on the parts of both the courts and the valuation experts as regards the determination and application of discounts and premiums. The usefulness of some established studies for determining discounts and premiums has been questioned in recent years, both in journal articles and in court decisions. There is also the heightened visibility of more quantitative models such as put option models. Analysts will best use available data by remembering that discounts and premiums derive from valuation fundamentals such as timing, risk, and growth of cash flows of businesses and of specific ownership interests. They are really shorthand ways of talking about frequently recurring valuation relationships.
The most common valuation discounts and premiums arise from the basic concepts of control and marketability. A minority shareholder, whether in a publicly held or a privately held company, is often a passive investor with little or no input into how the company is run. In addition, a minority shareholder in a privately held company faces difficulty in finding ready buyers for his or her shares.
