Analyst develops a COVID-19 marketability discount

BVWireIssue #217-2
October 14, 2020

discount for lack of marketability (DLOM)
risk analysis, discount for lack of marketability (DLOM), coronavirus, COVID-19

Valuation analysts have several ways to reflect the extra risk of COVID-19 on businesses, such as adjusting the cash forecast and tweaking the company-specific risk premium (CSRP). But very small businesses are not likely to have forecasts and some analysts may not want to go the CSRP route.

Alternative method: In a new article, an analyst reports that he has been using a “COVID-19 marketability discount” on control interests to make the extra risk adjustment. “In many situations, I favor the methodology of showing a separate COVID-19 marketability discount,” says Greg Caruso (Harvest Business Advisors), “because it clearly shows the valuator’s thought process and the actual discount being applied for the current high level of uncertainty.” His methodology is based on the weighing of factors such as those used in Mandelbaum and the IRS DLOM Job Aid but with categories modified to fit the current situation.

Caruso first developed this technique to use in a valuation for an SBA loan. The company was temporarily shut down and appeared to be fully recovered on a monthly cash-flow basis for the two months after reopening. Yet, there was still risk of another shutdown and customers would have economic issues if a recession hit, so Caruso’s basic capitalization rate was a buildup for “normal times,” which included a normal company-specific risk that he further discounted by the COVID-19 marketability discount.

Caruso explains his methodology and presents a case study with a sample analysis in the November 2020 issue of Business Valuation Update.

Extra: Caruso is the author of a new book, The Art of Business Valuation: Accurately Valuing a Small Business, which focuses on valuing closely held firms with revenues below $10 million.

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