BVWire Issue #175-2 | April 12, 2017

Snapchat valuation hubbub: was discount rate plugged?

Valuation experts all know about the interplay of variables in a DCF. Sometimes it may appear that the various inputs are manipulated to come up with a desired result. That’s the perception swirling around the valuation of Snapchat by Morgan Stanley, which was the firm’s lead underwriter in the largest tech IPO in years.

Backed in? On March 28, Morgan Stanley issued a correction to an equity research note that put a $28 price target on the stock. The correction slashed almost $2 billion from projected EBITDA and free cash flow for certain years, but the $28 target price stayed the same—and so did the recommendation to buy Snapchat stock, which then saw a 4% rise in price. If the cash flow changes materially in a DCF, something else must change to keep the end result the same. In the corrected research note, Morgan Stanley says: “[W]e are lowering our SNAP equity risk premium from 5.59% (an estimated pre-IPO rate) to 4.29% (consistent with other companies in our group). This change lowers our WACC to 8% (from 10%). On an aggregate basis, our price target is unchanged at $28/share." Coincidence? "It almost feels that they're backing into the numbers," says Charles Lee, a professor at the Stanford Graduate School of Business, in an article in Business Insider.

Upon closer inspection, Morgan Stanley’s adjusted WACC corresponds with what it uses for other internet companies, such as Alphabet and Etsy (both 8%) and Amazon (7.7%). Also, it lowered the WACC for Priceline in January to 8% from 10%, and it made a similar move with Expedia, lowering it to 7% from 9%, the article points out. Even so, other banks involved in the Snapchat deal used significantly higher WACCs than Morgan Stanley, such as Deutsche Bank (~16%), Jefferies (12%), Credit Suisse (11%), and RBC Capital Markets (11%).

Of course, analysts make many assumptions about the different inputs, but, when material changes are made that do not affect the conclusion, questions arise as to the reliability of the entire process. Morgan Stanley declined to comment on all this, according to Business Insider.

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Confusion over key valuation issues prompts remand

Clarity in valuation report writing is critical. A Wisconsin case arising out of the buyout of a minority shareholder illustrates how an expert report that was ambiguous on a number of key issues, including the use of a minority discount, contributed to prolonging the litigation. To be fair, uncertainty over some of the trial court’s instructions and findings also escalated the family fight.

No constraints on appraiser: The subject company dealt in farm equipment and technology. The father was the majority shareholder and the son the only minority shareholder. A corporate redemption agreement (CRA) gave the company the option to buy back the son’s stock for $1,000 per share. This price was subject to reappraisal under certain conditions. After the son left the company in 2008, several disagreements developed into different lawsuits. The instant case centered on the valuation of the son’s 510 shares in the company.

The company paid the son $510,000 based on the price stated in the CRA. The son sued for a revaluation. He lost in trial court but won on appeal.

On first remand, the parties argued over who should perform the appraisal, what should be the scope of the valuation, whether to apply discounts, and whether the designated appraiser should treat bonuses paid to the father as reasonable compensation or as retained earnings.

For example, the son argued the CRA required a valuation of the entire corporation. The trial court’s response was ambiguous. The court noted the CRA “just basically talks about value of the corporation,” but also said it was “not going to put constraints upon the accountant or the appraiser who’s doing the evaluation.” The valuator should “use his professional judgment and discretion in determining the fair market value of the stock of the company” and whether a discount accounting for the minority status of the son’s interest should be used.

The appraiser valued the son’s interest in the company at $615,000.

On second appeal, the reviewing court agreed with the son that under the CRA the trial court should have ordered the appraiser to value the entire corporation rather than the son’s minority interest. The son also claimed the appraiser improperly applied a minority discount. The appeals court said it was unable to determine whether that was what the expert did. The expert report contained language suggesting he did not, but other statements indicated the expert’s “initial valuation was affected by the fact that [the son] owned a minority interest in the corporation,” the appeals court said. This was one of several issues mandating another remand. The appeals court was clear: In his revaluation, the expert was not permitted to use a minority discount.

The case is Swiderski Equip. v. Swiderski, 2017 Wisc. App. LEXIS 91 (Feb. 14, 2017). A digest of the decision and the court’s opinion will be available soon at BVLaw.

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New Fernandez paper on troubles with financial models, especially CAPM

Finance and Financial Economics: A Debate About Common Sense and Illogical Models,” by Pablo Fernandez (University of Navarra, IESE Business School), says that financial economics is a subject developed by economists whose main purpose is to elaborate “models” based on unrealistic assumptions, which makes it very different from finance. These models “have very little to do with the real world: companies, financial markets, investors, managers,” and the “most emblematic example is the CAPM,” he says.

Still absurd: Fernandez wrote the 2014 paper “CAPM: An Absurd Model,” which generated so many comments that he issued a revised version and also published the comments as a separate paper. Over three-quarters (78%) of the commenters agree with the term “absurd” to describe CAPM. In an interview with Business Valuation Update at the time, Fernandez believes the affinity for using models and “recipes” is partly the reason valuation practitioners continue to use CAPM. “For consulting firms and regulators, there's also a lot of inertia and still enough of a mass of firms using it that you can justify its use by showing a list of all of those firms and people who still use it,” he says. “From the point of view of consulting firms, the beta impresses clients and people who are not in finance because it gives a sense of something magical and difficult going on. Also, it's very easy to copy the last valuation your company or colleague did when you are doing a new one, so that can perpetuate it.”

In the new paper, Fernandez says: “We think that common sense, experience and some business and financial knowledge are much better than a bad theory and an absurd model.” He asks readers to comment on his opinions.

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BVWire readers weigh in on the definition of personal goodwill

During a recent webinar on the double-dip phenomenon in a valuation for divorce, one of the speakers, Rob Levis (Levis Consulting), pointed out that there’s no official definition of “personal goodwill.” He pointed out that it does not show up in the “International Glossary of Business Valuation Terms.” “You can find goodwill, but not personal goodwill,” he noted. It’s also not in the glossary from the International Valuation Standards Council.

In BVR's Guide to Personal v. Enterprise Goodwill, 5th edition, the chapter’s author, David Wood (Wood Forensic/Valuation Services), famous for his MUM framework for estimating personal goodwill, offers his definition:

Personal goodwill is the value of earnings or cash flow attributable to attributes of the individual that results in earnings from consumers that return because of the individual, in earnings from new customers who seek out the individual, and in earnings from referrals made to the individual.

Some BVWire readers offered up their suggestions for defining the term. “In my opinion Wood's definition is inadequate,” says Bob Dohmeyer (Dohmeyer Valuation Corp.). “You can't ‘define’ ‘personal goodwill’ or even begin understanding the concept without first discussing market compensation for ‘the individual’ in his definition. Further, you can't define it without breaking it down to ‘transferable’ versus ‘non-transferable’ personal goodwill along with the non-compete issue that impacts transferable personal goodwill.” He refers readers to an article from Stout Risius Ross.

From Australia, Simon Cook (Lotus Amity Forensic Accounting) offers this from the Federal Court of Australia: Federal Commissioner of Taxation v Krakos Investments Pty Ltd (1995) 61 FCR 498; 32 ATR 7, as summarized in “The meaning and nature of goodwill in the tax context” (Ian Tregoning): “Personal goodwill. Depends on the personal characteristics of a person or persons associated with the business. It is these personal qualities which attract the customers.”

During a recent four-hour workshop on personal versus enterprise goodwill, Jim Alerding (Alerding Consulting LLC) acknowledged that there’s no official definition but remarked that it was not really pertinent. “I think we have our own discussions and determinations of what personal goodwill is as opposed to enterprise goodwill,” he says. “There are a lot of definitions of things that valuation experts do that are not in a glossary.”

If you have a comment, let us know!

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Valuing oil, gas, and alternative energy assets

The latest in the series of What It’s Worth guides is Valuing Oil, Gas, and Alternative Energy Assets. It contains perspective from experts on the challenges, key valuation drivers, and opportunities in oil, gas, and alternative energy sectors. Plus, you’ll learn how the courts ruled on key aspects of valuations with in-depth analysis of important cases.

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Healthcare services M&A deal volume up in 2016

Merger and acquisition activity in the healthcare industry’s services sectors increased in 2016, in deal volume but not in the dollar value of transactions, according to the newly released 2017 Health Care Services Acquisition Report from Irving Levin Associates. Deal volume for the healthcare services sectors rose 1%, to 942 transactions, versus 935 in 2015. The dollar value of those deals fell 49%, to $72 billion, compared with $140 billion in 2015.

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Global BV News

New Hong Kong VPO will seek blessing from regulators

BVWire was recently in Hong Kong, where we learned that the relatively new Hong Kong Institute of Financial Valuers (HKIFV) is taking up where a similar organization left off. In the wake of the internet bubble, the concerns of regulators triggered efforts by the valuation community to organize and bring the profession to a higher level. A group was formed, the Hong Kong Business Valuation Forum (HKBVF), but it was mostly real estate-centric. It did, however, issue standards for the valuation of businesses and intellectual property. But then the concerns of the regulators dissipated and the effort fizzled. Michael Li (Roma Group), a member of the working committee of the HKIFV, tells us the group is about to issue a discussion draft and approach the regulators to get their blessing. If that happens, standards will be adopted, training will be offered, and an oversight infrastructure will be put in place.

Some veteran valuators in Hong Kong say they doubt that the regulators will give the HKIFV their seal of approval. Also, the group does not appear to have the backing of the Big Four, so the regulators may nix the deal in light of that. We expect some developments in June.

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New IVSC boards to issue consultation paper for comment

In the wake of the finalization of IVS 2017, the newly formed boards of the International Valuation Standards Council (IVSC) had their first meetings. The new Standards Review Board will amend and approve international valuation standards and is chaired by Mark Zyla (Acuitas). This board has two focused subject matter expertise boards reporting to it: a Tangible Assets Standards Board (covering real estate, plant and machinery, and personal property) chaired by Ben Elder (RICS) and a Business Valuation Standards Board chaired by Andreas Ohl (PwC). Although the first meetings were closed, future meetings will be public. The boards are producing a consultation paper that will propose areas where IVS can evolve, and they will solicit comments from interested stakeholders.

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BV movers . . .

People: Nate Collins has joined San Ramon, Calif.-based Armanino as a consulting partner to lead the firm’s CFO advisory services practice … Blue & Co. added Julie DiFrancesco as a principal on the reimbursement team in its Columbus, Ohio, office … Jay E. Fishman of Financial Research Associates has joined the board of trustees of the International Valuation Standards Council Nora Hickey has been elevated to president at Finance Information Group in Chicago … David Grossman, COO and shareholder of Houston-based GBH CPAs, has been appointed to the Center for Audit Quality’s Smaller Firm Task Force … Grant Thornton announced additions to its Philadelphia office: Keith Kushin will act as a principal in the firm’s Transaction Services Advisory practice and lead fairness opinion offerings nationally, Navdeep Singh is a new director in Corporate Finance, and Brandon Gittelman and Julian Samuel have joined as managers in Corporate Finance … Peter Martin is now a partner at Loveland, Colo.-based food and agriculture consulting firm KCoe Isom Robert Reyburn has joined Ankura Consulting as a managing director. He’ll work out of the firm’s Washington, D.C., office … Dallas-based Hermes Law hired attorneys Nathan Shackelford and Ryan Brown, both of whom focus on commercial litigation … Atlanta-based Bennett Thrasher has named Vijay Vaswani as managing director of its Transaction Advisory Services practice.

Firms: The AICPA has announced new, unified branding in conjunction with the Chartered Institute of Management Accountants and its joint venture, the Association of International Certified Professional Accountants. Currently, only a logo has been released, with the rest of the rebranding expected to launch by the end of 2017 … The Atlanta Journal-Constitution named Atlanta-based Aprio a “2017 Top Workplace” … BDO has acquired Clifton, Va.-based government agency consulting specialists Hilton Consulting, whose staff will move to BDO’s McLean, Va., offices … Decosimo Corporate Finance of Chattanooga, Tenn., announced the formation of Decosimo/Brown Strategies, which will assist business owners in planning for ownership transitions. Winston Brown will lead the new venture … Birmingham, Ala.-based Warren Averett Asset Management and Kinsight have combined and will operate under the Averett name … Securities litigation specialists Pomerantz LLP announced the opening of an office in Paris, to be headed by director Nicolas Tatin.

Please send your professional and firm news to us at

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CPE events

Regression Analysis: Fundamentals for Appraisers (April 20), with G. William Kennedy (Duff & Phelps).

CEIV: Ready, Set, Go! (April 25), with William A. Johnston (Empire Valuation Consultants). This is Part 7 of BVR's Special Series on Fair Value.

Advanced Bankruptcy Valuation (April 27), with Robert Reilly (Willamette Management Associates).

Purchase Price Allocations for Banks (May 3), with Rick Childs (Crowe Horwath LLP) and Charles Clow (Crowe Horwath LLP). This is Part 5 of BVR's Special Series on Banking and Financial Services.

Important note to webinar attendees: To ensure that you receive your dial-in instructions to BVR’s training events, please make sure to whitelist

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New and Trending LinkedIn Discussions

BV Outsourcing to India Stirs Strong Feelings

Expert Witness—Avoid Litigation Landmines

Hitting the Bullseye

Your discussion could be featured here—BVR's LinkedIn group is a place for valuation professionals to share, discuss, and learn about compelling BV topics. If you're not already a member, request to join:

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We welcome your feedback and comments. Contact Andy Dzamba (Executive Editor) or Sylvia Golden (Executive Legal Editor) at:
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In this issue:

Snap gaffe

Report woes

CAPM criticism

Personal goodwill

Oil & gas update

Healthcare M&A

Global BV news

BV movers . . .

CPE events

LinkedIn discussions


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