S T R I C T L Y   P R I V A T E   A N D   C O N F I D E N T I A L

D I S C U S S I O N   M A T E R I A L S
O C T O B E R   2 0 0 7
l

This presentation was prepared exclusively for the benefit and internal use of the JPMorgan client to whom it is directly addressed and delivered (including
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D I S C U S S I O N   M A T E R I A L S

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AL–TAJIR
 Application of discounts to theoretical value

The
The example
example illustration
illustration below
below indicates
indicates that
that a
a 30%
30% minority
minority interest
interest discount
discount combined
combined with
with a
a 50%
50% liquidity
liquidity discount
discount equals
equals a
a total
total
65% discount from the value of control shares
65% discount from the value of control shares

 A premium is associated with the control of a company; a minority stake is subject to a discount vis a vis a
control position

 In addition, a liquidity discount is typically applied to assets, like privately held investments, that lack a ready
O V E R V I E W   O F   M I N O R I T Y   A N D   L I Q U I D I T Y   D I S C O U N T S

market

 The example illustration below depicts these discounts as they might apply to a minority stake in a private
business enterprise

A combined $10.00 per share Control premium or minority discount

30% minority
30% minority
interest
interest discount
discount and a (or 43% control
50% liquidity
premium)
equals a total
65% discount $7.00 per share
from the value 50% liquidity Liquidity discount
of control discount
shares $3.50 per share

AL–TAJIR 1
 Minority discounts to theoretical value
Empirical
Empirical evidence
evidence suggests
suggests that
that minority
minority interests
interests range
range from
from roughly
roughly 25%
25% to
to 30%
30%

 A premium is associated with the control of a company; a minority stake is subject to a minority discount vis a
vis a control position

 A number of studies that have attempted to quantify the control premium by comparing the price paid for a
control position in public companies against the prior public market trading price
O V E R V I E W   O F   M I N O R I T Y   A N D   L I Q U I D I T Y   D I S C O U N T S

 The minority discount is typically viewed as the inverse of the control premium. As a result, control premium
studies can be used to estimate historical minority discounts

 A premium paid analysis of 12,582 selected M&A transactions above $10 million from January 1, 1995 to March
31, 2007 yields an average control premium of 29.8%1

 This implies an average minority interest discount of 23.0%

 Based on a Houlihan Lokey study, premiums paid for controlling interests ranged from approximately 35% to 45%
with a high of 105%2

 By implication, the discount applied to the minority interests ranged from approximately 25% to 30%, with a
high of 51%

 A Mergerstat Review study implies an average minority discount of 28.3%³

1
Based on Dealogic data and JPMorgan analysis. Premia paid to target’s closing price one week prior to announcement. Transactions included ones with beginning stake of
acquirer below 50% of share capital and ending stake above 50%
2
Control Premium Study, 1st Quarter 1995, (Los Angeles: Houlihan Lokey Howard & Zukin, 1995).
³ Mergerstat Review 1994

AL–TAJIR 2
 Liquidity discounts to theoretical value
Empirical
Empirical evidence
evidence suggests
suggests that
that discounts
discounts for
for closely
closely held
held or
or private
private companies
companies tend
tend to
to cluster
cluster in
in the
the range
range of
of 35%
35% to
to 50%
50%

 A liquidity discount is a discount attributable to the lack of a ready market

 Researchers have attempted to measure the liquidity discount by comparing the price of restricted (or private)
stock in a public company to the price of comparable public securities in the same company
O V E R V I E W   O F   M I N O R I T Y   A N D   L I Q U I D I T Y   D I S C O U N T S

 Robert Trout performed a study from 1968 to 1978 which determined that restricted stock was purchased at an
average 33% discount versus freely traded¹

 Similar studies by Robert Moroney², J. Michael Maher³, Standard Research Consultants4 and William Silber5 over
several different time intervals from 1973—1988 indicate liquidity discounts can range from 31% to 36%

 Robert W. Baird & Company performed a related study from 1981—1993 on the relationship between a company’s
IPO price and the price at which the last private transaction occurred 6

 Among the transactions examined, the last private transaction was priced at an average 47% discount to the IPO
price

 IPO discounts, the difference between a company’s IPO price and its anticipated fully distributed value, are
typically 10%–20%, although this discount is usually applied to only a small portion of the company

¹
Robert R. Trout, “Estimation of the Discount Associated with the Transfer of Restricted Securities,” Taxes, June 1977.
²
Robert E. Moroney, “Most Courts Overvalue Closely Held Stocks,” Taxes, March 1973.
³
J. Michael Maher, “Discounts for Lack of Marketability for Closely-Held Business Interests,” Taxes, September 1976.
4
Charles H. Stryker and William Pittock, “Revenue Ruling 77-287 Revisited,” SRC Quarterly Reports, Spring 1983.
5
William L. Silber, “Discounts on Restricted Stock: The Impact of Illiquidity on Stock Prices,” Financial Analysts Journal, July-August 1991.
6
John D. Emory, “The Value of Marketability as Illustrated in Initial Public Offerings of Common Stock-January 1980 through June 1981,” Business Valuation News, September
1985.

AL–TAJIR 3
 Summary of discounts to theoretical value
The
The table
table below
below summarises
summarises the
the results
results of
of several
several empirical
empirical studies
studies designed
designed to
to measure
measure minority
minority and
and liquidity
liquidity discounts
discounts

Type/study discount
O V E R V I E W   O F   M I N O R I T Y   A N D   L I Q U I D I T Y   D I S C O U N T S

Minority discount
¹ JPMorgan analysis based on Dealogic data. Shows premiums paid to target’s closing price one week prior to announcement. Transactions included are ones with beginning
stake of acquirer below 50% of share capital and ending stake above 50% of share capital. Deals included from January 1, 1995 to March 31, 2007.

Mergerstat Review
Houlihan Lokey AL–TAJIR 4
 L:\Private Client
Advisory\CEEMEA_Russia\Poland\Minorities\Minority
Discounts_v4.ppt

Agenda
Page

Appendix 5
1

4
D I S C U S S I O N   M A T E R I A L S

V E C T R A 5
 Minority interest situations

 The discount generally reflects the ability of the controlling shareholder to draw private benefits from the
management of the company to the detriment of the minority shareholders. It reflects an uneven distribution
among the shareholders of cash flows generated by the asset or specific undue advantages (fringe benefits for
example). This discount stems from the relative contractual or legal influence of shareholders on company
policy, and from the shareholders’ ability (or inability) to assert the rights conferred by their shares before the
courts. Conceptually, it is the counterpart to the portion (b) of the control premium described above

 Discounts for lack of control are not directly observable in the marketplace. Such discounts are often calculated
as the mathematical inverse of observed control premiums (which include the power of control and a strategic
premium):

Control premium
A P P E N D I X

Source: Dealogic, JPMorgan.

Note: Premiums paid to target’s closing price one week prior to announcement. Transactions included are ones with beginning stake of acquirer below 50% of share capital
and ending stake above 50% of share capital. Deals included from January 1, 1995 to March 31, 2007.

AL–TAJIR 6
 Joint control situations

 In the case of a partnership venture, there is an additional discount that could be called a “discount for the
absence of control”. The fact that the corporate governance system gives the rights and obligations (such as
veto power over key decisions, e.g. budget decision) to both shareholders creates a situation where the
company’s overall value could suffer from any future disagreement between them. As this discount impacts
both the shareholders and the business as a whole, it should be applied to the 100% value. More specifically, it
covers:
 The obligation of joint controlling shareholders to reach consensual decisions that could (i) result in delays to
negotiate and agree on key business strategies and (ii) lead to non-optimal decisions
 A major conflict between shareholders that could lead to (i) a deadlock in the management of the company,
or (ii) lost opportunities. Both would alter the company’s competitive positioning

 There is even less information available on this type of discount. For example, there are few transactions that
reflect a discount for absence of control deriving from a partnership. In practice, these discounts are
determined subjectively

 The reasonableness of the selected discounts should be checked against the value characteristics of the
company such as:
 The implied difference in the WACC needed to arrive at the 100% DCF value after discounts;
 The haircut in EBITDA needed to arrive at the 100% DCF value after discounts; and
 The period of cash flows that would need to be foregone to arrive at the 100% DCF value after discounts
A P P E N D I X

AL–TAJIR 7
 Discount for lack of marketability

 A discount for lack of marketability is “an amount or percentage deducted from the value of an ownership
interest to reflect the relative absence of marketability”¹. The discount reflects shareholders’ difficulty in
realizing a sale when they so wish for two primary reasons

 The inability of a shareholder in a closely held company to sell its holdings freely in a liquid market (i.e. in a
stock exchange). This component affects equally the majority and the minority shareholder

 The constraints faced by a specific shareholder (minority or controlling) to sell its holding to a third-party
investor
 Pre-emptive rights that would reduce the probability of sale and make an investment less attractive to a
third-party buyer (see Appendix C of this report). This situation affects majority and minority holdings
 Tag-along rights that create price-dependent uncertainty as to the size of the stake a third party buyer would
acquire
 Unfavourable corporate governance rules: If a selling minority shareholder (i) has no board seat, they may
suffer from inequalities of information flow that would render the determination of the appropriate timing
and positioning of a sale more difficult, or (ii) is unable to block or influence the decisions of the majority
shareholder
 The presence of an activist minority shareholder would dampen an acquirer’s interest in buying a majority
stake in the company
A P P E N D I X

¹International Glossary of Business Valuation Terms (2001).

AL–TAJIR 8
 Discount for lack of marketability (cont’d)

 A discount for lack of marketability captures the diminution in value attributable to a non-marketable security
relative to its value on a fully marketable basis. For decades, valuation analysts have sought reliable, market-
based evidence to aid in the quantification of discounts for lack of marketability. Various empirical studies and
quantitative models have emerged from this research (a complete discussion of discounts for lack of
marketability is presented in Appendix B):

Restricted stock studies

 Empirical studies on restricted shares under SEC Rule 144 post 29 April 1997¹ show median discounts ranging from
8.4% to 18.3%. Pre-IPO studies prepared by researchers show median discounts ranging from 25% to 73.1%²

 In practice, these discounts are determined subjectively in order to take into account the characteristics of the

Post 29-Apr-1997
ownership interest to be valued
¹On 29 April 1997, the restricted period under Rule 144 was reduced from two years to one year
² Houlihan Lokey
A P P E N D I X

Pre 29-Apr-1997 AL–TAJIR 9