do we take a Minority Discount?
Value of Minority Interest
is Lower Because of Lack of Control
It comes as a surprise to many that a minority interest
in a privately held company is worth less than its proportionate
share of the company taken as a whole. These people often
think that a 15% interest in a company that is worth $1,000,000
should be worth $150,000. This is a sometimes hazardous notion.
Well-trained appraisers and experienced investors know that
minority interests (often called non-controlling interests)
are worth less—substantially less—than their proportionate
share of the value of the company. Controlling shareholders
enjoy many benefits that are not available to non-controlling
Benefits of Control. Among the benefits
reserved for controlling owners are:
• The ability to appoint or change management;
• The ability to control the Board of Directors;
• The ability to set management compensation
• The ability to liquidate, sell-out, or
recapitalize the company;
• The ability to pay (or not pay) dividends
• The ability to acquire, lease, or liquidate
• The ability to negotiate mergers and acquisitions;
• The ability to control the operation and
course of the company’s business.
Majority Controls Dividends. From a practical standpoint,
the owner of a less-than-controlling interest in the company
is at a severe disadvantage compared to the owner of the controlling
interest. The controlling shareholder/manager is under no
obligation to pay any portion of the profits to other shareholders.
Where the controlling shareholder is also the manager or president
of the company, he will sometimes set his own compensation
so high that no profits are left over to pay to other shareholders
as a return on their investment.
Other times controlling shareholder/managers will hire family
members and pass on to them as compensation the profits that
might otherwise go to non-controlling shareholders. Far from
the exception to the rule, this is a common occurrence in
many small privately owned companies.
No access to Value of Assets. Many
minority shareholders believe that because the assets of the
company have value, that the value of their share is protected
by the value of the underlying assets. This is seldom the
case. Ownership of stock in a company does not grant the shareholder
any portion of the ownership of the underlying assets. In
the first place, the creditors of the company will always
be in line ahead of shareholders if the company is liquidated,
and the controlling shareholder can control the liquidation
of the assets.
For all of these reasons, it’s well-settled law that
a non-controlling interest is in most cases worth less per
share than a controlling interest.
Unfortunately there isn’t a book where the extent of
the minority discount that should be applied can be looked
up by the appraiser. It depends on the nature and extent of
the infirmity suffered by the controlling shareholder. This
infirmity, the opposite of the advantage enjoyed by the controlling
shareholder, depends on such factors as the relative sizes
of the blocks held by the controlling shareholder and the
non-controlling shareholder; the rights and benefits set forth
in the shareholders’ agreement, rights and duties of
controlling shareholders set forth in law, and the attitude
and historical patterns of the controlling shareholders in
paying dividends out to minority shareholders.
Many Appraisers Rely on Benchmarks. In many
cases, business appraisers rely on benchmarks for minority
discounts derived from control premia paid by acquirers of
controlling interest in other companies. The implied minority
discount is the inverse of the control premium paid by the
acquirer. There are many reasons why this is an imperfect
measure of the minority discount, but it is about the best
source of observed market data available. According to recent
compilations of these control acquisitions, the median implied
minority discount is about 30% from the value of the stock
(for large companies).
Minority Discount for Smaller Companies May be More.
For small companies the discount can be very much greater
than this figure because the typical controlling shareholder
in a small business has far greater power than management
of the size companies typically acquired. Some appraisers
believe that non-controlling interests in small privately
held companies are entirely worthless.