November 16, 2011 | Issue #110-3  

Are current DLOM methods vulnerable to Daubert? Hitchner and Pratt say no—but judges say, ‘it depends’

“There always seems to be one issue that our profession is wrestling with,” said Jim Hitchner (Financial Valuation Advisors) in opening his session on discounts for lack of marketability at last week’s AICPA National BV Conference in Las Vegas. Tax-affecting is still important, as is cost of capital—but DLOM “seems to be ahead of all the others,” he said. Currently, there are over 50 DLOM models. The IRS DLOM Job Aid discusses many in detail, concluding that “the BV profession does not identify acceptable or unacceptable methods.” Individual practitioners have their own preferences, Hitchner observed, and “frequently disagree as to the best approach.” In fact, sometimes they “vehemently” disagree.

Question from the audience: “Does the proliferation of DLOM models and lack of consensus mean that DLOM methods could fail under Daubert, particularly its requirement for ‘common acceptance by practitioners in the field’?” “No,” Hitchner said. “There’s some risk under Daubert but a lot of these methods have been used for years.” Added co-presenter Shannon Pratt (SPV), “There’s a court case that says just because something isn’t prevalent in the [professional] community doesn’t mean you can’t use it.”

However, these methods are prevalent, and “frequent use” may not always equal “common acceptance.” Consider what happened to the “25% rule of thumb” after years of use by patent infringement experts and passive acceptance by the courts. And consider these comments from U.S. Tax Court judges at BVR’s recent Tax Summit:

  • “The problem I have personally is that most valuation testimony in Tax Court does not meet the Daubert standard,” said Judge David Laro. “Leading experts in the field have conceded that [frequently used BV methods] are not Daubert-tested, Laro said. “That day is coming.”
  •  “You must be able to test your results,” observed Judge Mary Ann Cohen.  
  • DLOM is just one area “where you see experts going into advocacy,” said Judge Julian Jacobs. “It can get a little absurd, depending on the circumstances.”

NACVA and IBA parting ways

Four years ago, a group of investors—led by the National Association of Certified Valuators and Analysts (NACVA) and ValuSource—acquired the Institute of Business Appraisers (IBA) because, “they recognized the importance of the IBA to the business valuation profession and the potential it held,” said a letter to NACVA members, made public last week. Having achieved their goal to bring the IBA “to a place of solid stability, poised for future growth,” the investors have offered the IBA’s board of governors the possibility of re-establishing the IBA as an independent, member-run and member-owned organization.

 “We intend, over the next three months, to develop and execute a plan such that, effective February 1, 2012, the Institute of Business Appraisers will once again be an independent organization,” the NACVA letter continues. “All existing IBA designations will remain intact. The new organization will continue to work cooperatively with NACVA and its education affiliate, the Consultants’ Training Institute (CTI). Our planned joint conference June 20–23, 2012, in Dallas, will take place as scheduled.”

Nearly 50% of business owners still can’t get financing, says Pepperdine private cost of capital survey

The current market for raising private capital is still tight. “About half of [business] owners can’t get financing,” says Rob Slee (MidasNation), who partnered with Pepperdine University and Dr. John Paglia to survey private capital markets beginning four years ago and updated every six months since. “Only about a third of the owners [surveyed] are able to attract bank financing,” Slee adds, as the chart below reveals. The percentages add to more than 100, because many owners obtain more than one source of capital.


The good news:
The success rate for those who do secure financing are much higher than Slee expected: 78% to 89% for owners who sought funds from family/friends; 26% to 39% for angel financing; and 23% to 54% for private equity. “It takes a few knocks on the door to get money,” said Slee, who published the survey excerpts in the most recent MIdasNotes. What do the data tell us? “First, even though there’s generally a lack of capital for private businesses, some owners are getting funded,” Slee says. “Second, owners will do what they have to do to get funded, regardless of cost of capital. . . . The world of capital is an uncertain place, and there’s every reason to think that will continue for small businesses.”

Free Pepperdine fall report: Pepperdine has just made its Fall 2011 Business Financing Report available as a free download. “I would also encourage you to stay in contact with the project by joining our LinkedIn Group, Pepperdine Private Capital Markets Project,” says Dr. Paglia. To join, click Join Group.

E&O insurance products have not kept pace with BV profession?

“I have both the CBA and the AVA, with the CMA accounting credential,” reports a respondent to our recent survey on errors and omissions (E&O) insurance among BV firms and practitioners. “I provide a full range of valuation services, plus extensive consulting on fully transacted sales (both internal and external). Because I am not a CPA, no coverage for the full range of my practice is available to me. What IS available is quite expensive and covers only a tiny fraction of what I do.” Says another survey participant (who didn’t cite his/her professional affiliation): “I've been looking, but can't find anything that seems to be focused on our industry as BVs.”

By comparison, one CPA-participant recommends, “CPA's should go with the AICPA policy. They continuously improve the coverage and risk management annually, have seminars and [other forms of continuing education]” through the Aon track. Similarly, “CNA is great,” said another respondent. “Good cost, good coverage and they have many other add-ons.” Keys to successful protection are also “using engagement letters, having good restrictions on distribution to third parties, liability caps, and indemnification clauses,” says this commentator. “Also, the guidance that I have been provided is when you don't make your engagement letter a one-way street and Draconian there is a higher chance of courts enforcing it and maintaining its provisions/terms.” In other words—be sure your engagement letter has the best chances of becoming a bilateral contract by having the client review and sign it.

Overall, 50% of those who answered the question said they took advantage of the AICPA’s insurance option. Only a fifth (16.7%) subscribe to the ASA’s BV Professional Liability via Murray Insurance, while the same proportion (16.7%) said they used Camico and another 16.7% listed some “other” option (one simply cited “Philadelphia.”) On average, respondents pay approximately $4,000 in annual E&O premiums, with an annual deductible of nearly $22,000, for a maximum annual coverage per incident of roughly $1.57 million.

California: first state to try to legislate against the ‘double dip’

Last February, California Senator Roderick Wright (D-Inglewood) sponsored a bill, SB 481, regarding the determination of spousal support in marital dissolution actions. “Existing law requires the court to consider various factors for determining spousal support, including, among other things, the ability of the supporting party to pay spousal support, and the obligations and assets of each party,” states the committee notes. “This bill would require the court to also consider the extent [to] which income for support was already capitalized and paid to the other spouse in the division of community property, in order to avoid double counting the income when the result would be inequitable.”

Although currently tabled in the Senate, the California bill represents “an interesting attempt to legislate this issue,” according to Stacy Collins (Financial Research Associates). The bill wouldn’t necessarily eliminate the double dip so much as extend the discretion that trial courts already enjoy in determining spousal support to include, on a case-by-case basis, the possible impact of the double counting of income, first in capitalizing a business asset for distribution and then again in using the owner’s earnings to award support.

The legislation, if passed, might set a precedent for other state jurisdictions, which currently seem to straddle a range between an outright prohibition—in Mississippi, for instance, courts says the double dip presents a “glaring inequity”—to an ad hoc fairness review, to a passive tolerance. For currency and clarity on this complicated issue, tune in to: Asset or Income? Double Dipping in Divorce, featuring Collins and Don DeGrazia (Gold Gocial Gernstein) this Thursday, Nov. 17. In this 100-minute webinar, Collins and DeGrazia will discuss how to recognize the possible double-counting of income and assets, and how different jurisdictions have tried to resolve the continuing quandary.

The biggest mistakes made by top BV experts

“What was your biggest mistake—and how did you recover?” That was one of the “hardball” questions thrown to the panel at the AICPA BV conference in Vegas. Categorically, “the worst thing is an unexpected error that you didn’t plan for,” said Jay Fishman (Financial Research Associates). “We’re in the confidence business,” he said, and mistakes “can make you look like a fool.” But don’t try to deny them. “An expert on another case admitted he made a mistake with a multiple,” said moderator Jim Hitchner. His bigger mistake: “When asked if it changed his value, he said, ‘No.’ Take the punch,” Hitchner added. “An error is an error.” It will affect your credibility but denying it could affect your whole case—or, as Fishman wryly observed, “There’s a world of difference between taking a punch and getting knocked out.”

Beware when opposing counsel asks if you have a calculator. In a litigation setting, “mistakes are hard to recover from,” said Harold Martin (Keiter Stephens), who moderated a separate AICPA panel on expert witnesses. “Every accountant has made accounting errors,” said panelist Michael Crain (Financial Valuation Group). “The best thing is to admit it, don’t evade it.” Just know that when opposing counsel first asks you to attest to the accuracy of your report—and then asks you to get out your calculator, that a mistake is coming, and the question will be akin to something like, “when did you stop beating your wife?” said attorney Bill Dolan (Jones Day). Once you’ve admitted the error, you can expect questions such as, “your report is wrong, isn’t it?” or “how many other errors do you have in your report?” Dolan’s advice: “Whatever you do, don’t say you have no other mistakes,” because “you will have the other [errors] handed to you on a platter, and the jury won’t trust another thing you say.” Better to simply answer, “none that I know of,” and move on.

Fair value neither ‘fair’ nor ‘value,’ says critic at SEC roundtable

The SEC wants to “get to the heart of the issues” surrounding the measurement of uncertainty, said its chief accountant, Jim Kroeker,in his remarks to the SEC's November 8 Roundtable on Measurement Uncertainty, the first in the SEC's Financial Reporting Series. “Getting back to what . . . the accountants used to call the tradeoff between relevance and reliability,” Kroeker told investors, preparers, analysts, auditors and other roundtable attendees, “something may be more reliable if I put it on the books at cost, but is that more relevant?” Responses, as reported by the summary FEI blog, included:

  • "I think investors look for certainty in the accounts, and it’s all a question about handling your uncertainty,” said Stephen Penman (Columbia Univ.) “When you accountants do your work, don’t mix speculation with what you know, because I need an anchor in the financial statements to build on, [so] leave the speculation to me."
  • "Putting on a façade of mathematical precision, whether it’s probability-weighted estimates or confidence intervals or anything like that—I am reminded of . . . the founder of fuzzy logic [and] the principle of incompatibility,” said Pinto Suri (Flaherty & Crumrine): “‘As a system’s complexity increases, meaningful statements lose precision and precise statements lose meaning.’. . .  Because as we start putting on all kinds of mathematical constructs on things that are inherently uncertain, you will just open up to more lack of confidence down the road.”
  • “Should disclosure be a substitute for recognition?” asked Gary Kaburek (Xerox Corp.). That is, “maybe something should be perhaps in the footnotes going forward [rather] than actually recognized and measured on the face of the financial statements, maybe that’s something long-term [to consider in standard-setting].” 
  • "Absolutely, I couldn’t agree with you more,” answered Suri. “One of the things we need is truth in labeling—fair value is neither fair, nor value; we need to get that on the table, get comfortable with that, the Earth’s not going to shatter. These items should be moved into disclosure, these are traditional add-ons that are useful to assess what management is doing.”

Only 32 more days to get your 2011 CPE!

Believe it or not, there are more shopping days left until Hanukkah or Christmas than there are business days to capture your end-of-the-year professional education credits. To meet all your 2011 CPE requirements, consider:

  • BVR’s Online Symposium on Healthcare Valuation continues on Tuesday, Nov. 29, with Physician Compensation in an Era of High Demand and Limited Providers. Featuring Daniel Stech and James Connors III (both Pinnacle Group), the 11th installment of our 2011 series addresses the compensation of physicians—a large and surprisingly varied group—across markets and specialties.
  • The Industry Spotlight Series returns on Thursday, Dec. 1, as experts R. James Alerding and Ronald E. Nielsen (both Clifton Gunderson) present Valuations in Agribusiness: Food Processing Companies. Focusing on the final stages of the industrialized food supply chain, this webinar will cover the operational nuances and valuation challenges that food processing companies present.

Mercer, Ma join IVSC boards

Z. Christopher Mercer, founder and CEO of Mercer Capital, became the latest U.S. member to join the International Valuation Professional Board of the International Valuation Standards Council (IVSC), according to a recent IVSC release. Dr. Cindy Ma, a managing director and co-head of Houlihan Lokey’s Portfolio Valuation Practice, joined the International Valuation Standards Board. Greg Forsythe, a director in Deloitte Financial Advisory Services’ valuation practice, will move from Vice Chair to Chair of the Professional Board.

In other highlights from the IVSC’s annual meeting in Hong Kong last week, the Professional Board approved the updated Code of Ethical Principles for Professional Valuers as well as a revised paper on “The Professional Valuer” for release as an exposure draft. The board has also nearly completed three technical information papers on the discounted cash flow approach and the cost approach for both tangible and intangible assets, to be published in 2012. Also slated for next year: publication of exposure drafts on fairness opinion guidelines and contributory asset charges.

In memoriam: Terry Allen

“It is with great sadness that I have to inform the BV community of the passing of Terry Allen, ASA, this past weekend,” said Linda Trugman, ASA BV chair, in a special e-letter to members. “A longtime member of the ASA and practicing business appraiser, Terry hailed from the Des Moines, Iowa, area. She was in practice for herself and also partnered with the Financial Valuation Group,” Trugman wrote. “The list of Terry’s involvement and dedication to our profession is long and varied.” Among her many lifetime achievements:

  • ASA Board of Governors, 2010-current
  • ASA International Education Committee: 2000-2004
  • ASA Business Valuation Committee, member: 2000-2006
  • ASA Business Valuation Committee, Vice Chair, 2005-2006
  • ASA Business Valuation Committee, Chair, 2007-2008
  • ASA Business Valuation Committee, Past Chair, 2009-current
  • ASA Business Valuation Education Sub-Committee, 1998-current

BVWire as well as the many team members at BVResources send our special condolences to Terry’s family, friends, and colleagues. We enjoyed working with Terry on so many occasions over the years. She will be missed.

Editor’s note: The BVWire will be taking a hiatus for the holidays, to resume with the November 30, 2011, issue. Have a safe and happy Thanksgiving.


To ensure this email is delivered to your inbox, please add to your e-mail address book. We respect your online time and privacy and pledge not to abuse this medium. To unsubscribe to BVWire™ reply to this e-mail with 'REMOVE BVWire' in the subject line or use the link below. This email was sent to %%emailaddress%%

Copyright © 2011 by Business Valuation Resources, LLC
BVWire™ (ISSN 1933-9364) is published weekly by
Business Valuation Resources, LLC

Contact Editor
| Advertise in the BVWire | Reprint Requests


Search All BVR

Share on LinkedIn Upcoming Training Opportunities



Business Valuation Resources, LLC | 1000 SW Broadway, Suite 1200 | Portland, OR 97205-3035 | (503) 291-7963 |