DISCOUNTS FOR LACK OF CONTROL (DLOC)

Saturday Brain Storming Thought (207) 27/01/2024

DISCOUNTS FOR LACK OF CONTROL (DLOC)

A discount for lack of control (DLOM) is a sum or percentage subtracted from the subject pro-rata share value of a 100 % equity stake to compensate for the lack of any or call rights conferred by a control position in the subject organization

Formula for DLOC

DLOC = 1 – (1/(1+CP) where CP is the control premium

Algebraically, the control premium is converted into what is purported to be a discount for lack of control (minority interest discount)

DLOC is the reduction in a company’s share value due to a shareholder’s lack of ability to exercise their control over the company

Difference between DLOC and DLOM

DLOC accounts for the reduced value of a minority interest due to the absence of control

DLOM reflects the impact of illiquidity or limited Marketability

Lack of control

Loss of control generally refers tovlack of the ability to provide conscious limitation of impulses and behavior as a result of overwhelming emotion

States of agitation such as fighting, screaming, and uncontrollable weeping are most often thought of as behavior illustrative of loss of control

Lack of control (DLOC) Valuation

DLOC takes into account the benefits of control not available, which may include

1) The ability to change or appoint management

2) The ability to have control over the board of directors

3) The ability to control management compensation

4) The ability to sell, recapitalize or liquidate the company

5) The ability to pay shareholder dividends

6) The ability to lease, liquidate or acquire business assets

7) The ability to negotiate acquisitions and mergers

8) The ability to control the company’s course of business

9) The ability to award contracts

10) The ability to acquire or sell treasury shares

11) The ability to put the stock up for sale to the public

12) The ability to change the bylaws and articles of incorporation

Impact of DLOC on the value of ownership

1) The benefit stream for the market and income approaches of valuation will not be adjusted for any control-related items, which may include the discretionary expenses of owners or the overcompensation of officers, so the values that result from this are considered to be non-controlling

2) DLOC can be applied to arrive at a non-controlling value of the applied valuation methods deriving the controlling ownership interests value, as may be the case with income/market-based approaches or the adjusted net asset method

Discounts based on

1) Empirical studies

2) Conditions unique to that particular business

3) Both empirical studies and unique conditions

Empirical Studies

Empirical studies will designate a premium price that should be paid for controlling interest in the corporation and contrast that to the amount the corporation’s non-controlling shares were trading for the market before purchase, thereby arriving at the appropriate discounts

Unique conditions

Conditions unique to the business might include the degree to the controlling shareholder or shareholders act against the interests of the non-controlling shareholders

Discount Recording

1) Cash discounts are an expense to a company that appears in the profit and loss account

2) Trade discounts are recorded in purchase and sale books

Cash Discount

A cash discount is a discount made by a company to its consumers to promote early payment

Trade discount

A trade discount is a reduction in the product list price

Factors contributing to DLOC

1) Limited Voting Rights

2) Limited Access to Company Information

3) Restricted Ability to Influence Management Decisions

4) Limited Liquidity