RSD-1: Background on Restricted Stock Discounts

Five recent posts on this blog have addressed the topic of restricted stock discounts. At the risk of some overlap with earlier posts, we will restart the series in a more disciplined manner. The purpose of this series of posts is to highlight the fact that attempting to use averages of restricted stock studies as a basis for determining marketability discounts (or DLOMs, if you prefer) applicable to illiquid minority interests of private companies is not a valid valuation method. We will examine restricted stock discounts in light of valuation theory, business valuation standards, and common valuation practice. The ultimate conclusion is that the common usage of restricted stock discounts as a market approach for developing marketability discounts is flawed and that valuation analysts should consider methods under the income approach that consider the expected cash flows, growth and risks associated with receiving these benefits for illiquid minority interests in relationship to the marketable minority base values to which they are compared.

Business Valuation: An Integrated Theory, Third Edition Is Here

Business Valuation: An Integrated Theory, 3rd Edition has been published by John Wiley & Sons, Inc. in the Wiley Finance Series. My co-author, Travis W. Harms, CFA, CPA/ABV and I are excited and relieved to have received this work in hand late last week. In this post, I will begin to tell the story about the book and why you should own it and read it.

#5 – Addressing Comments Regarding Restricted Stock Discounts

Two readers of this blog provided good comments to my last post, #4 – The Myth of the 25% – 45% “Typical” Range of Restricted Stock Discounts Must Die. The discussion that these comments began is important for appraisers, so their comments and my responses constitute this fifth post in the series on restricted stock studies and discounts.

#4 – The Myth of the 25% – 45% “Typical” Range of Restricted Stock Discounts Must Die

The valuation lore with many valuation analysts who cite “the restricted stock studies” (and seldom much more) is that the “typical” range of restricted stock discounts is from about 25% to 45%, with an average of about 35%. This post addresses, and hopefully kills, this myth.

#3 – Quantifying Expected Holding Period Premiums from Restricted Stock Transactions

This is the third post in a series on restricted stock discounts. We address the economics of the expected holding period premium over public company issuer discount rates that causes the restricted stock discounts observed in restricted stock transactions. The only difference between public company shareholders and restricted stock purchasers is the period of enforced illiquidity enforced by SEC Rule 144. When appraisers estimate marketability discounts based on averages of dated restricted stock studies, what is the implied holding period and what is the implied holding period premium? If you can’t address those questions, you will have difficulty in sustaining the credibility of your concluded restricted stock discounts.

#2 – Restricted Stock Discounts: The Expected Holding Period Premium is the Cause

In the first article in this series on restricted stock discounts, we examined the Silber Study, which was published in 1991. In this post, we focus on the differences and similarities between restricted shares and freely traded shares of issuers of restricted stock to hone in on the expected holding period premium. This series should begin to change how you think about restricted stock discounts.

#1 – The Silber Study of Restricted Stock Discounts – 1991

We Should Have Known Then

This is the first of a series of posts that will examine the use (or misuse) of restricted stock discounts directly to attempt to develop marketability discounts for illiquid minority interests of private companies. The Silber Study, which was published in 1991 in the prestigious Financial Analysts Journal, should have given the business appraisal profession a clue that the use of averages of studies is not meaningful.

Led by Four Trillion Dollar Companies, the Market Caps of Public Stocks Are Highly Concentrated

The public stock markets are highly concentrated in the top 500 companies both in terms of market capitalization and earnings. This post looks at those concentrations and at the declining number of public companies. We also discuss the S&P 500 Index and the Russell 2000 Index to see how the largest public companies have fared relative to small cap stocks since the markets recognized the COVID-19 Pandemic.

A Quirk with Third Appraisers in Buy-Sell Agreement Valuation Processes

The role of the third appraiser is always to bring resolution to buy-sell agreement valuation processes. The question is how the third appraiser’s conclusion will be used to bring pricing resolution. In this post we see that one “typical” way of considering the third appraiser’s conclusion has in interesting and potentially dangerous twist for valuation processes.

The Buy-Sell Agreement That Might Never End

Recently, I was involved, for a moment, in a buy-sell agreement valuation process that had many issues. A key executive in a company was terminated. He owned about 15% of a profitable operating company, and his firing triggered the company’s buy-sell agreement provisions in its operating agreement. This was a buy-sell agreement that was virtually destined to fail unless the parties agreed to a change in the process.