Interests in LLCs and LPs.
Over the past 20 years, the principals of BAS have performed approximately 500 independent valuations involving interests in general and limited partnerships, limited liability companies, and fractional interests in real estate properties or qualified personal resident trusts.
Typically, these entities own assets in the form of (1) publicly traded stocks, bonds and other equities that have a readily ascertainable market value, or (2) real estate for which an independent asset appraisal is available. The balance sheet may also contain other assets and may be encumbered by debt and other liabilities.
Under these circumstances, BAS calculates the fair market value of the underlying LLC or LP interests by first converting the balance sheet to a market value basis, then applying relevant discounts for lack of control, lack of marketability, and lack of voting rights to the entity’s adjusted equity balance. These valuation discounts are based on real world market data that is available from the following sources:
- Mergerstat Control Premium Study (from which a discount for lack of control is calculated);
- FMV Opinions’ Restricted Stock Transaction database;
- Pluris database of restricted stock transactions;
- Valuation Advisors’ Pre-IPO discount study;
- Pre-IPO Discount Studies published by Emory business Advisors, LLC;
- Historical studies regarding discounts for lack of marketability;
- Direct Investments Spectrum database of secondary market trading activity for syndicated partnership units;
- Closed-end fund discounts;
- Independent studies regarding discounts for fractional interests in real estate;
- Independent studies regarding discounts for lack of voting rights.
The discount for lack of control (also known as the discount for minority interest) and the discount for lack of marketability are governed by the economic rights and restrictions applicable to the LLC or LP interest based on the provisions included in the operating agreement or partnership agreement of the entity. In addition, BAS considers state law rights granted to the LLC or LP interests to determine if the provisions of the operating agreement or the partnership agreement are more restrictive than what state law allows. In this case, BAS relies on the applicable state law provisions when determining the appropriate levels of discounts to apply when calculating the fair market value of the LLC or LP interests.
Our valuations of LLC and LP interests have been frequently reviewed by the Internal Revenue Service, with minimal adjustments made in rare cases.
The Sum of the Parts is Not Equal to the Whole
The sum total of the value of all the LLC or LP interests in an entity is far less than the value of all the assets minus the liabilities of the entity. This is sometimes referred to as the "disappearing value trick." What causes this to be the case? If you own title to 100% of the assets, then you can unilaterally decide how to utilize the asset, distribute the cash flows generated by the asset, and sell the asset whenever you want. In this case, valuation discounts do not apply. However, if there are 100 owners who each own a 1% limited partnership interest, the market value of each 1% interest must be discounted to reflect the owner's lack of control over the assets and extreme illiquidity associated with a 1% interest compared to the assets themselves. The application of relevant valuation discounts leads to the "disappearing value."