Valuation Advisors Lack of Marketability Discount Study Frequently Asked Questions (FAQs)

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Q:What is the legend for Valuation Advisors Lack of Marketability Discount Study data?

A:

Q: How should I search the database? When I conduct a search I find there’s not enough content in my industry of interest – what do I do?

A: Below are edited excerpts from Brian Pearson’s (the author of the Valuation Advisors Lack of Marketability Discount Study) August 23rd, 2007, webinar on the use of the Valuation Advisors DLOM Study:

In some cases, the size of the business or its operating results may be more important than the industry in which the business operates.

For lack of marketability and your target company – the common thread or the common theme, of course, is the riskier the company, arguably oftentimes over the timeframe, the higher that lack of marketability discount is going to be. And so as you look at your target company, you can look at its profitability especially and search in our database for companies of similar profitability, similar size (revenues or assets), similar industry, and figure out which of those factors, if not all of them, are important, and obviously the search results themselves if it's in a particular industry that has enough transactions. Or if it isn't in an industry with a lot of transactions, what you want to do then is go more global. So if you're in a very niche industry – in our database which has over 3,500 transactions – that still doesn't have something in there that targets it, then what you want to do is expand the search. So you start probably narrow, start with your SIC code. If that doesn't work, then you start to expand it by using assets, revenues, operating income, and use that to target the search closer to your company.

If you have somewhat of a unique industry and you're trying to find a comparable group, once again, you might search it by operating income, and that might give you a sense of companies that have gone public that had operating incomes similar to your target company. And oftentimes, that's helpful especially if you have high operating income margins. Low operating income margins aren't too difficult usually. Higher ones tend to be, so you can start with the industry and operating margins, but you might just globally search the whole database for operating margins because if you don't find companies that fit the industry, you might have luck with just trying to make the argument that a company with similar operating margins might be viewed as a similar risk by investors. So that would be another functional use for the databasse.

Q: Where is the source of the information contained in the database?

A: Before a company has an initial public offering (i.e. IPO, or they "go public"), they file a prospectus with the SEC. These prospectuses are available through the SEC's EDGAR database, and also from the investment bankers underwriting the offering. Valuation Advisors receives a copy of each prospectus and reviews it. Valuation Advisors then records any transactions involving the company's stock, stock options or convertible preferred stock prior to going public (i.e. when it was still a private company).

Q: How is the transaction price per share determined?

A: All the transaction prices originate from the company’s final registration statement. The most recent stock or option price prior to the IPO may be the transaction price used, depending on whether it represents true Fair Market Value per SEC guidelines. For example, in the case of Blue Nile, the transaction was an option that was issued at a price below fair market value, so it was adjusted for the deferred compensation the company had to record to make the pre-IPO transaction price used in the Valuation Advisors database reflect the SEC’s view of true fair market value. Thus, the database figures account for so called “cheap” stock or options. Thus, a transaction price in the prospectus may be different from what’s reported in the database to account for the compensation component of any “underpricing” of the stock or option, as reported in the prospectus. If no such adjustment needs to be made, the actual option or stock price is then used. 

Q: Are all IPOs included in the Valuation Advisors study?

A: No. The following IPOs are excluded: IPOs related to REITs, IPOs without transactions in their stock, convertible preferred stock or options prior to the IPO, Master Limited Partnerships (MLP), Limited Partnerships (LP), closed end funds, and mutual conversions.

Q: Does the database include all transactions (stock, option, cps) within 16 years of the IPO date, or is there a filter Valuation Advisors applies to the data to eliminate some transactions?

A: The database does not include all transactions within 16 years of the IPO date. Here are a few examples. First, where there were multiple transactions in one of the 3-month time periods, or beyond one year, the database uses the highest priced transaction (i.e. the lowest discount transaction) to be conservative in the discount numbers. For example, if the IPO price was $15, and two transactions occurred within 3 months of the IPO at $11 and $13, the database would only use the transaction at $13. Second, the database would include transactions within the same time period if they were CPS, but not options and stock. Thus, if you had all three transactions in the same time period, the database would include the CPS transaction and the higher of the option or stock transaction. Third, the database will never include transactions that are for companies that are partnerships, REITs etc.

Q: How does Valuation Advisors adjust for stock splits prior to the IPO?

A: All the data are typically adjusted by the investment banking firms for any stock splits. They will usually disclose this in the capitalization section of the prospectus. 

Q: Have you analyzed the relationship between US DLOMs and International DLOMs and if so, what have you found?

A: We haven’t statistically analyzed the relationship, but the general trend is similar to the “US only discounts” in that the International only discounts tend to increase over time from the IPO date. 

Q: Are these international companies filing with the SEC more appropriate to use for international valuations only, or more appropriate for US valuations—or both?

A: The International companies are potentially appropriate for both. If you are trying to calculate discounts by industry or for a particular time period only, you may want to use all the companies (foreign and domestic) in the database. The Valuation Advisors Lack of Marketability Discount Study is the largest valuation discount database in the world. If you are trying to calculate discounts for an international company, you would most likely want to start with the international only transactions, which can be aggregated, or searched by country (plus all the existing search parameters for US companies). The international component of the database is very useful to any valuation firm doing work for an international company or a company that has a considerable portion of its sales, earnings or operations outside the United States.

Q: Does "Country" refer to the country of incorporation or the country of listing?

A: This is the country of incorporation, with a few exceptions. Valuation Advisors looks to see where the company does business and where it maintains its corporate offices. An exception would be insurance companies. Oftentimes insurance companies are incorporated in a foreign country and trade in the US, and have corporate offices in New York. They would be considered a domestic company. Whereas, a company that is incorporated in Hong Kong, has corporate offices in China, and is listed on the NYSE, would be considered a foreign corporation. 

Q: Does the study get updated as new companies "go public"?

A: Valuation Advisors receivest prospectuses for new IPO's usually in the week after the company goes public. It takes some time to review the information and compile it for the database, but the database is updated with new IPO's at least once per month.

Q: What is the timeframe of the study?

A: The study tracks transactions in pre-IPO companies within 16 years of their IPO.

Q: Why is the database useful to me?

A: Because it will provide an objective basis for making your valuation reports' discounts for lack of marketability more defensible to third parties. Specifically, it gives you a documented resource for your work paper files.

Q: How does this information help me in my valuation?

A: By allowing you to search by industry the database allows you to see what actual discounts for lack of marketability were for companies in an industry similar to the company you are valuing. You can also search by revenues, operating income, and assets to find companies that are similar in size to the company you're valuing. These search options allow you to support the lack of marketability discount you use in a valuation report by showing discounts from comparable companies, thus making your entire valuation report more defensible. 

Q: Will the database help me find comparable or guideline companies using a market valuation approach?

A: Yes, the Valuation Advisors Study is a good resource for finding similar public companies (either by size or industry) to the company you are valuing. This can give you a good sample of public companies by industry to review for your market approach.

Q: What if my practice is litigation based?

A: The study is especially useful because it provides market based data. Nonetheless, results must be applied properly based on the particular facts in the case.

Q: How does Valuation Advisors define the IPO price?

A: The IPO price in the study is the price the investor pays at the public offering (also, what gets printed on the prospectus). In other words, it's the final price set by the investment banker. Take JetBlue for example, which went public in April 2002. Its IPO price was $27, and it opened trading in the high $30's and finished the first day of trading at $45. The price used by the Valuation Advisors Study is the $27, since that's the price you would pay to buy your shares as the investor, regardless of how the stock later trades, up or down.

Q: Do the companies included in the Valuation Advisors Lack of Marketability Discount Study make regular distributions?

A: Most of the companies in the Valuation Advisors Lack of Marketability Discount Study are C corporations, and therefore do not make distributions, or for that matter, pay dividends. Some companies were S Corporations that converted to C corporations, but only a few. The presumption is that they made standard S Corporation related distributions yearly, or possibly a one-time distribution to take out any built up AAA account balances prior to conversion.

Q: Does the Valuation Advisors Lack of Marketability Discount Study allow for earnings growth between the time of the "transaction" and the IPO?

A: Valuation Advisors does not account or adjust the data for such possible growth. Since a valuation is at a point in time, and it ideally captures such future growth in the valuation result, to somehow arbitrarily adjust the values determined would be to then skew the discounts determined. Valuation Advisors lets the market dictate such results.

One method you could use for a rapidly growing company would be to select the IPO industry and compare post IPO growth from the companies found in the database to the subject company and use those with similar post IPO growth rates as a benchmark for selection of your discounts.

Q: How are the marketability discounts calculated for the CPS (convertible preferred stock) and O (options) transaction types? Is the option or convertible transacted and then compared with the price of the option or the convertible at the point of the IPO?

A: The discounts are the difference between the IPO Price and the time the option or CPS was issued. In the case of CPS, it’s the effective stock price at issuance, using the convertible feature (if this is provided in shares, typically the conversion can only occur upon a sale of IPO, so usually it’s the IPO price).

Q: Does the Valuation Advisors Lack of Marketability Discount Study exclude or include insider pre-IPO transactions? How does Valuation Advisors account for "below market" transaction prices?

A: The Study includes insider transactions. When they are "below market" resulting in compensation expense under FAS 123 Valuation Advisors accounts for this in the transaction. 

The database doesn't disclose when a transaction is considered an insider transaction, since the prospectus filing doesn't disclose this information. Regarding FAS 123, Valuation Advisors adjusts the "below market" transactions (many of which could be insiders) to market prices, and then calculates the DLOM. The market price may or may not be close to the strike price. In other words, the DLOM Valuation Advisors is calculating is based on an SEC reviewed figure for Fair Market Value, irrespective of the stated strike price. The difference between the FAS 123 adjusted number and the offering price is the DLOM. 

Q: How does the Valuation Advisors Lack of Marketability Discount Study report revenue and operating income for bank-related data? What period do you use for the income data? For the asset data, what date do you use?

A: For the revenue field for a bank, the database uses the “Interest Income” line from the bank’s financial statements. In most cases, the database uses the most recently completed fiscal year per the company’s IPO prospectus filing.

For operating income, the database considers the company’s pre-tax income from the same period the interest income was from. Since there’s not a clean “operating income” figure for a bank, pre-tax income seems to be the closest approximation.

For assets, the database uses the total assets figure for the latest period reported in the company’s IPO prospectus. Since companies don’t always go public at the start of their fiscal year, this data might not be in the same time period as the income statement data the database reports. 

Q: Why does my search for transactions in a given time period show results different from what was previously published?

A: From time to time, Valuation Advisors identifies transactions from earlier periods that were not included in previously published information. When Valuation Advisors finds those transactions, they are added to the database, and may have a slight impact on the average results from those periods, as well as the total number of transactions in those periods. 

Q: Why don't I see my SIC code or NAICS code of interest in the search engine's list of SIC or NAICS codes?

A: The website's search engines use the underlying data to create the list of SIC and NAICS codes. If your SIC or NAICS code is not listed in the search engine, this means there are no transactions with that SIC or NAICS code in the database. You may want to search the other databases to see if they have any helpful data or expand your search criteria to include similar SIC or NAICS codes.

Q: Can I search by more than one SIC code or more than one NAICS code?

A: By pressing and holding down the left mouse button, you can drag your mouse cursor over a series of SIC codes. 

By holding down the control button on the keyboard and clicking with the left mouse button on the codes you wish to search by, you can highlight a noncontiguous group of codes. 

By selecting a code, holding the shift button, and selecting another code, you can highlight a contiguous group of codes.

Q: Each time after I alter my search of the database and I ask for a printable format, the results of my very first search continues to show in the printable format window. Is there something different that I can do so that I can print the results of the most current search?

A: If you are using Microsoft Internet Explorer, please do the following:

• In Internet Explorer, go to the Tools/Internet Options menu
• On the General tab, in the Temporary Internet Files section, click "Delete Files"
• On the General tab, in the Temporary Internet Files section, click "Settings"
• If it is not already clicked, click the "Every visit to the page" radio button, then click "OK"

Q: Can I print more than one transaction at a time?

A: To print a group of transactions (the current group size is 10); on the search results page in the list of transactions, utilize the icon that looks like a red piece of paper – it is labeled “Print Detail Report Package”. When printing more than a couple of detailed transaction reports, this will save you time. 

Q: I want the transaction reports to fit onto one page, instead of two. What can I do to make this possible?

A: The best solution is to maximize your print margins. When you print transaction reports, reduce the print margins to 0.25 inches and most will fit on a single page. Also, you should remove any header/footer information that your browser includes in web page printouts.