The value of a minority interest in a business.

• Author: Houlihan, Richard

THE VALUE OF A MINORITY INTEREST IN A BUSINESS

According to the 1990 Statistical Abstract of the United States, approximately 17 million businesses exist in the U.S. They are comprised of over 3.4 million corporations, 1.7 million partnerships, and more than 12 million sole proprietorships. Furthermore, the United Shareholders Association, a group formed in 1986 to represent minority shareholders in public corporations, reports that there are approximately 47 million minority shareholders in approximately 10,000 U.S. public companies. It is logical that millions of minority shareholders also exist in closely held companies - that is, non-publicly traded companies.

What Is a Minority Interest?

A minority interest is an interest which has no meaningful control over the day-to-day operations of a business, as in the case of a minority shareholder who owns less than 51 percent of a corporation and has no input as to management's salaries or other corporate matters, including the payment of dividends. In a public corporation, the minority shareholder with free-trading stock can simply sell his stock through the appropriate exchange and receive cash for his stock based on the bid price minus commissions.

Simply put, the minority shareholder, while not having "control," does have "marketability." In a closely held situation, however, the minority shareholder often has little, if any, opportunity to attract a buyer to assume his position, which has neither control nor liquidity.

The following schematic (see table) illustrates the three basic levels of value which every businessperson should understand before investing in business. The example assumes a corporate structure with stock; this valuation principle, however, applies to other business entities such as partnerships. The schematic is an excellent tool for visualizing the relationship of minority interests to other corporate interests. Three basic levels are illustrated:

* Top level - corporate control and marketable (liquid)

* Middle level - lack of control but marketable (liquid)

* Bottom level - lack of control and lack of marketability (not liquid)

Determining Minority Interest Value

As can be seen on the "Levels of Value" table, the non-marketable minority interest (bottom level) is worth much less than the total marketable enterprise level (top level) because of control and marketability differences. To determine the proper value for the minority interest, the higher levels of value...