DLOM explained: what is a discount for lack of marketability?

A discount for lack of marketability (DLOM) is a reduction applied to the value of a private or otherwise illiquid ownership interest, because it can't be sold quickly, cheaply, or at a certain price the way a public stock can. Same cash flows, same risk, but the private interest is worth less per share because there's no ready market for it. DLOM is how appraisers put a number on that gap.

It shows up in gift and estate tax filings, shareholder disputes, divorces, ESOP valuations, and 409A work — anywhere a stake in a closely held business needs a defensible value.

DLOM vs. DLOC: two different discounts

Before the methods, the distinction that trips people up. DLOM and the discount for lack of control (DLOC) compensate for different things, and conflating them is a fast way to lose credibility with the IRS or an opposing expert:

• DLOM — the interest, controlling or not, can't be readily turned into cash. It's about liquidity.
• DLOC — a minority holder can't direct company decisions (dividends, strategy, a sale). It's about control.

They're often applied together on a minority interest, but they answer separate questions — and how you combine them matters (see the edge cases below). A control-basis value already reflects control, so a DLOC only enters when you're moving from a control value to a minority interest.

How it's calculated: three families of method

There's no formula that spits out one correct number. Appraisers pull evidence from three families of method — the IRS's DLOM Job Aid (2009) catalogs all three — then triangulate and adjust:

1. Empirical benchmark studies

These derive the discount from observed transactions. Restricted-stock studies compare a public company's freely tradable shares against otherwise-identical shares carrying resale restrictions (Rule 144 stock). The evidentiary chain runs from the SEC's 1971 Institutional Investor Study (avg ~26%) through Silber (1991) (mean ~34% across 69 private placements) and later Management Planning and Columbia Financial Advisors studies. A crucial nuance: discounts fell after the SEC shortened the Rule 144 holding period (to one year in 1997, six months in 2008), so an old study's average doesn't transfer to today's regime — the discount is really a function of the expected holding period, not a fixed "restricted-stock number." Pre-IPO studies (Emory, Willamette Management Associates) compare private transaction prices in the months before an IPO to the offering price, and tend to show larger discounts (~40%+), but carry a selection-bias critique: only companies that reached IPO are in the sample.

2. Option-pricing (analytical) models

These give the discount a theoretical grounding by treating illiquidity as the cost of a hypothetical option to sell, priced over the expected holding period. The three in common use differ mainly in what timing ability they assume:

• Chaffee (1993) — the cost of a protective put (a Black-Scholes European put) bought to guarantee the ability to sell at today's price over the holding period.
• Longstaff (1995) — an upper bound on the discount, modeled as a lookback put held by an investor with perfect market timing. It shows the discount can be large even over short illiquidity windows — but it's a ceiling, not a point estimate.
• Finnerty (2012) — an average-strike (Asian) put, assuming the investor has no special timing ability. It's widely used because that assumption is more realistic, and it fits observed private-placement discounts well.

All three take the same inputs, and the answer is only as good as them: volatility (from listed guideline companies), the expected holding period, the risk-free rate, and any dividend yield. Change the volatility or holding period and the model output moves materially — which is why a reviewer tests those inputs first.

3. Cash-flow and other models

Income-based approaches like Mercer's QMDM (Quantitative Marketability Discount Model) derive the discount from the interim cash flows and the expected holding period of the specific interest, rather than from market studies — useful when distribution policy and holding horizon are the real drivers. Damodaran's illiquidity-discount work links the discount to company characteristics (size, cash flow, a coming liquidity event). Most appraisers run several methods side by side, then adjust to the specific facts. Landmark studies cluster the average in the 20–35% range, but the real spread across cases is much wider — and the average is the starting point, never the answer.

Here's the option-pricing approach as a live model — the three methods computed on the fly for an illustrative non-marketable minority interest, with volatility from listed comparables and a restricted-stock cross-check. Move the volatility, holding period, and risk-free rate and watch each method, the concluded discount, and the non-marketable value update.

Edge cases and common errors

• DLOM is not DLOC. Different rationales — name each explicitly and support it separately.
• Don't naively stack discounts. Applying DLOC and DLOM multiplicatively vs. additively changes the answer; be explicit about the order and the base each applies to (typically DLOC off the control value, then DLOM off the resulting minority, marketable value).
• An old restricted-stock average is not today's discount. The Rule 144 holding period has changed twice; a pre-1990 study's ~35% doesn't apply to a six-month-holding world. Anchor to the holding period, not the vintage.
• Match the method to the facts, and don't average blindly. Averaging three methods that rest on incompatible assumptions isn't rigor — weight the ones whose assumptions fit the interest.
• Source the volatility and holding-period inputs. Option-pricing DLOM is only as good as the volatility (from listed comparables) and the expected holding period — both are assumptions a reviewer will test.
• A nearer liquidity event shrinks the discount. A credible IPO or sale on the horizon makes the interest more marketable; the concluded discount should move with it.
• Mind the standard of value and jurisdiction. Fair market value vs. fair value, the venue's case law, and tax-affecting a pass-through entity all shape what's defensible.

Why it gets fought over

DLOM is one of the most litigated assumptions in valuation. The case every appraiser cites is Mandelbaum v. Commissioner (T.C. Memo 1995-255), where the taxpayer argued a 70–75% discount and the IRS argued 30%. Judge Laro rejected both, started from restricted-stock and pre-IPO benchmarks, then adjusted using a list of company-specific factors — dividend policy, transfer restrictions, redemption history, and others now known as the Mandelbaum factors. Thirty years on, courts still follow that approach: start from the empirical range, then show your work adjusting it to the specific company.

That trail is where the work lives — the guideline companies selected, the volatility build, the holding-period estimate, and the reasoning that moved you off the empirical median. MacrosLM's valuation agents assemble that layer — pull the guideline comparables, build the volatility input, run the option-pricing models, and produce the exhibit with each figure traced to source. The discount you conclude, and the facts you weigh, stay with the appraiser who signs the report. (The same present-value discipline shows up across valuation work, from building a DCF to deriving WACC.)

Where each input comes from

The bottom line

DLOM answers a narrow question with wide consequences: what is an interest worth when you can't readily sell it? There's no single right number, only a defensible one — triangulated across empirical studies, option-pricing models, and cash-flow methods, kept distinct from DLOC, and adjusted to the specific company along the Mandelbaum factors. Get the evidence and the reasoning right and the discount holds up in front of the IRS or an opposing expert; get it wrong and it's the first thing they attack.

This article is for general information and is not valuation, tax, or legal advice. A DLOM is a matter of professional judgment, is heavily fact- and jurisdiction-specific, and should be determined by a qualified appraiser.