Want More Precise Private Equity Valuations? DLOM Inclusion Provides Good Answer

Abstract

We aim to provide practical and useful guidance for including discount for lack of marketability (DLOM) as part of precise, true and fair Private Equity (PE) valuation. The present accounting regulation on fair value measurement for PE prescribes use of exit prices (realisable bid-prices) while DLOMs are neglected. The DLOM research area originates from empirical studies on restricted stocks and pre-initial public offerings, followed by theoretical studies using put option models developed as attempts to demonstrate why the DLOM exists and its precise magnitude. The latest two contributions focus on the thinly trading aspect and provide quite precise DLOMs (and thus exit prices). For our analyses, we use relevant and well-defined illustrative examples earlier presented in the DLOM-literature, and we follow two evaluation criteria: The approach must make plausible economic sense, and it should only require minor input that should be either directly available or easily estimable. We contribute to the research area by showing how easy-to-use tools are useful for determining realistic DLOMs (and consequently also bid prices and thus exit prices) as part of the valuation of PE, and the spread of our findings will definitively be helpful when a precise PE value estimation is required.