USPAP Sanctions Use of QMDM?
"Although often misunderstood as some kind of proprietary black box, the QMDM is simply a shareholder level discounted cash flow model..."
Does the new USPAP sanction the use of the Quantitative Marketability Discount Model? Not exactly. But among the more interesting aspects of the revised Uniform Standards of Appraisal Practice, which is scheduled to go into effect on July 1 of this year, deals with the issue of marketability.
For the first time, USPAP will now require consideration of the "extent to which the interest is marketable and/or liquid" (Standards Rule 9-2.e.v). The revisions to this element of the standard goes on in Rule 9-4(d) to state "an appraiser must, when necessary for credible assignment results, analyze the effect on value, if any, of the extent to which the interest appraised contains elements of ownership control and is marketable and/or liquid" [emphasis added].
In a comment to this section, it states "an appraiser must analyze factors such as holding period, interim benefits, and the difficulty and cost of marketing the subject interest."
Twelve years ago we introduced the Quantitative Marketability Discount Model, or QMDM, as a methodology that would assess the cost of liquidity on the basis of facts and circumstances that were specific to a subject interest. We believed this was a big improvement on the then-standard methodology of relying on irrelevant and often obscure data to impute the same discount for every business interest regardless of reality.
Although often misunderstood as some kind of proprietary black box, the QMDM is simply a shareholder-level discounted cash flow model (DCF) that looks at five factors:
- The expected growth in value of the subject interest (necessary to generate a terminal value for the DCF).
- The expected interim benefits from the subject interest (dividends or distributions during the expected holding period).
- The expected growth in the expected interim benefits during the expected holding period.
- The shareholder level required holding period return (not surprisingly a premium return to that which would be expected for the enterprise on a marketable basis).
- The expected holding period for the subject interest (you can't have a DCF without some specific term).