Valuing Pass-Through Entities

Chapter 13Valuing Complex PTE Ownership Interests

The value of an ownership interest in a PTE can sometimes be derived by multiplying the entity's equity value by the subject percentage ownership and then applying applicable control and/or marketability discounts/premiums—but not always. That is because ownership interests, like wedding dresses, are often specifically tailored to satisfy the needs and desires of their owners. Some ownership interests, because of preferential allocations of revenues, expenses, proceeds on sale, and so forth, have substantially greater value than interests within the same entity that do not. Such special allocations need to be considered when valuing an ownership interest in a PTE. This chapter analyzes and provides guidance when valuing special allocations of ownership benefits in PTEs with complex capital structures.

Reasons for Complex Capital Structures

C corporations often have complex ownership structures. It is not unusual to identify public companies with multiple classes of preferred and common stock, options, warrants, and phantom stock. These different types of equity provide investors/employees/founders a return on investment commensurate with the risk associated with each round of financing. Higher risk investments (i.e., early stage or angel investments) tend to require greater returns. Such greater returns may be in the form of a larger percentage ownership interest in the company, board of director representation, preferences on ...