Certified Valuation Analyst CVA Discounts, Premiums, and Adjustments 1 — Questions and Answers
Question 1: Which of the following best describes the Discount for Lack of Marketability (DLOM)?
- A reduction applied to a controlling interest for illiquidity
- A reduction in value applied to an interest that cannot be quickly sold at a reasonable price (Correct answer)
- A premium added to minority interests in private companies
- An adjustment made to normalize earnings before applying a multiple
Correct answer: A reduction in value applied to an interest that cannot be quickly sold at a reasonable price
DLOM reflects the reduced value of an ownership interest that lacks a ready market, making it difficult to sell quickly at a fair price.
Question 2: A minority interest discount is applied primarily because minority shareholders lack:
- Access to audited financial statements
- The ability to control business decisions such as distributions and asset sales (Correct answer)
- Voting rights in publicly traded companies
- Protection under federal securities laws
Correct answer: The ability to control business decisions such as distributions and asset sales
Minority shareholders cannot unilaterally control key business decisions, which reduces the value of their interest relative to a controlling interest.
Question 3: The control premium is best defined as:
- The amount paid above book value for an acquisition
- The additional value an investor pays to obtain a controlling interest over a business (Correct answer)
- The discount applied to a minority interest for lack of liquidity
- The difference between fair market value and investment value
Correct answer: The additional value an investor pays to obtain a controlling interest over a business
A control premium represents the extra value a buyer is willing to pay to gain the ability to control business operations, distributions, and strategic decisions.
Question 4: Which method is most commonly used to quantify the Discount for Lack of Marketability using empirical data?
- The guideline public company method
- Restricted stock studies and pre-IPO studies (Correct answer)
- The discounted cash flow method with a liquidity premium
- The Mergerstat/BVR control premium study
Correct answer: Restricted stock studies and pre-IPO studies
Restricted stock studies and pre-IPO studies compare transactions of marketable versus non-marketable interests to empirically estimate DLOM.
Question 5: When moving from a controlling interest value to a minority, non-marketable interest value, the analyst typically applies adjustments in which order?
- DLOM first, then minority interest discount
- Control premium first, then DLOM
- Minority interest discount first, then DLOM (Correct answer)
- DLOM and minority discount simultaneously as a combined adjustment
Correct answer: Minority interest discount first, then DLOM
The standard sequence is to first apply the minority interest discount (moving from control to minority) and then apply DLOM (moving from marketable to non-marketable).
Question 6: Which of the following is an analytical model used to estimate DLOM based on option pricing theory?
- The Pratt model
- The Chaffe put option model (Correct answer)
- The Damodaran multistage growth model
- The Mergerstat regression model
Correct answer: The Chaffe put option model
The Chaffe put option model estimates DLOM by pricing a hypothetical put option that would allow the holder to sell an otherwise unmarketable interest.
Question 7: A Discount for Lack of Control (DLOC) is most closely related to which of the following?
- The difference between the market price and book value per share
- The inability of a minority shareholder to direct operations or declare dividends (Correct answer)
- A reduction in value due to thin trading volume on public exchanges
- An adjustment for key-person dependency risk
Correct answer: The inability of a minority shareholder to direct operations or declare dividends
DLOC reflects the diminished value of an interest that does not confer the right to control decisions such as compensation, dividends, or asset sales.
Certified Valuation Analyst CVA Discounts, Premiums, and Adjustments 1
Which of the following best describes the Discount for Lack of Marketability (DLOM)?