BVWire Issue #139-1 | April 2, 2014


No. 1 valuation risk when examining an M&A target

Well over half (59%) of CFOs say that an overstated revenue forecast is the No. 1 valuation risk when assessing a prospective acquisition, reveals a survey from Deloitte. This is by far their greatest concern in terms of valuation, with understated expenses a distant second (14%). Other worries are: an overstated exit multiple or terminal value (12%), understated capital needs (6%), understated discount rate (2%), and “other” (6%).

Big picture: Overall, an inaccurate target valuation is the third biggest concern of CFOs about M&As, with 14% citing this issue. Failure to effectively integrate the target is the top concern (43%), and a changing regulatory and legislative environment is in the No. 2 spot (16%).

“Target companies may be expected to view their cash flow projections optimistically, believing that recovery will likely drive market opportunities and growth,” explains Eric Pillmore, senior advisor to Deloitte LLP’s Center for Corporate Governance. “Yet how quickly, and how successfully, the post-transaction company may be able to exploit growth opportunities has become an open question under current circumstances,” he adds. Past disappointments and the write-downs taken during the financial crisis of 2007-2008 coupled with the weakness of the current U.S. economy may help explain why there is a “strong reinforcement for a cautionary view to M&A,” he says.

What to do: Of course, valuation analysts must regularly be on guard about the reliability of management projections. One good idea is to check the forecast against what industry analysts are projecting. If there is a big difference, can management explain it? Also, check how well management did with past forecasts. Did it hit its targets or was it way off? Also, management should have had all of the business units and department heads involved in coming up with the projections.

If you can’t trust the projection management gives you, try to adjust it or develop one on your own. If that’s not doable, you can choose to reject the income approach altogether.

If you do end up using management projections, include some disclaimer language in your report. The gist of the language should make it clear that you cannot guarantee that the forecasted results will be achieved, and therefore your conclusion of value could be materially affected.

Uncertainty with ASCs drives BV work

The ambulatory surgery center (ASC) industry is going through a very interesting time, Kevin McDonough (VMG Health) told the audience during a webinar last week, Valuing Ambulatory Surgery Centers. The industry is reaching a mature stage, growth in ASC development has leveled off, same-center growth has flatlined, ASC supply exceeds physician demand, and consolidation is in its initial stages, he observes. Furthermore, ASCs are dealing with continued managed care and Medicare reimbursement pressure and uncertainty regarding healthcare reform’s long-term impact.

Good news: “From a business appraiser’s standpoint the uncertainty is a good thing because it drives transaction and consulting work,” he says. “We’ve been busy.”

Law firms need a better—not bigger—boat

The fate of law firms, a crucial referral base for valuation analysts, depends on their ability to recognize that mere growth is not the key to success. This is the conclusion of the “2014 Report on the State of the Legal Market” published by the Center for the Study of the Legal Profession (Georgetown University Law Center) and Thomson Reuters Peer Monitor.

Last year was “another flat year for economic growth in U.S. law firms, with continuing sluggish demand growth, persistent challenges of low productivity, ongoing client pushback on rate increases, and a continuing struggle to maintain discipline on expenses,” the report reveals. Major law firms continue to fixate on expansion as a strategy for success, the report states, but, for most firms, this should not be the dominant law firm strategy. “Far more important is to focus on those factors that can help reshape the firm to be more responsive to the needs of clients, to deliver services in a more efficient and predictable manner, and to develop pricing models that reflect more accurately the value of the services being delivered.”

“Law firms need to think more carefully and systematically about what is necessary to build sustainable organizations over the long term," said Georgetown law professor Mitt Regan, codirector of the Center for the Study of the Legal Profession. "That means giving serious thought to both how they provide services to clients and how they can provide opportunities for lawyers that elicit commitment and afford professional satisfaction.”

Don’t forget about your expert valuation, DE Chancery warns

Even when a case ostensibly is not about valuation, valuation issues often play a pivotal role, and failure to provide a valuation may undermine a party’s claim. This is one of the lessons gleaned from a Delaware shareholder suit that moved from the Delaware Court of Chancery to the state’s Supreme Court on a novel legal issue.

Going-private merger: The defendants owned 43.4% of the target company and proposed to take it private, offering $24 per share. The proposal built two stockholder-protective procedures into the merger structure: (1) It required the directors to appoint a special committee to negotiate and approve the merger; and (2) it required the approval of a majority of stockholders that had no affiliation with the controlling stockholder. Post-merger, a group of shareholders filed suit in the Delaware Court of Chancery alleging breach of fiduciary duty. The defendants argued that the up-front protective measures ensured that the controller merger replicated an arm’s-length transaction and adequately protected the interests of minority shareholders. In a pretrial motion, they asked the court to review the transaction under the business judgment rule and dismiss the suit for failure to present a genuine dispute of fact. The plaintiffs claimed that the matter should be reviewed under entire fairness, the highest standard of review in corporate law, and should proceed to trial.

Range of valuations: Finding the case presented a “novel question of law” as to the applicable standard for review, the Chancery used the business judgment rule and granted the defendants summary judgment. In terms of the first requirement—the special committee requirement—there was no question as to its independence and empowerment, the Chancery stated. It was able to hire its own legal counsel, and it interviewed four potential financial advisors and ultimately retained Evercore Partners. The committee and Evercore asked management for updated projections to reflect current thinking on the target’s prospects. The revised forecasts indicated a downward trend. Evercore used various valuation tools, including the discounted cash flow (DCF) method and comparable company analyses to value the stock. Valuations based on the updated projections indicated a range of $15 to $45 per share. The DCF valuations generated a range of fair value of $22 to $38 per share; a premium paid analysis indicated a range of $22 to $45 per share. Ultimately, the parties settled on a “best and final” offer of $25 per share. Evercore opined the price was fair based on generally accepted valuation techniques. A majority of the minority shareholders approved the deal.

The merger, the Chancery found, resulted in a 47% premium to the closing price preceding the offer. It noted that the financial advisor considered the price fair in light of various analyses, “including a DCF analysis, which mirrors the valuation standard applicable in an appraisal case.” It pointed out that the plaintiffs did not produce a valuation from an expert that declared the merger price was unfair. They rationalized their omission by saying the defendants’ motion was not about the issue of fairness but about the business judgment rule. But, said the Chancery, the plaintiffs had to realize that to survive summary judgment they would have to show that the merger imposed terms that a rational fiduciary could not accept in good faith. Without a countervailing expert opinion, they “have not come close to meeting that burden.”

The Supreme Court affirmed the Chancery’s rulings on the applicable standard and on the summary judgment motion.

Find an extended discussion of Kahn v. M&F Worldwide Corp., 2014 Del. LEXIS 115 (March 14, 2014) in the May edition of Business Valuation Update. The Supreme Court’s opinion, together with the DE Chancery’s earlier opinion, In re MFW Shareholders Litig., 2013 Del. Ch. LEXIS 135 (2013), will be available soon at BVLaw.

Quick-thinking trial lawyer nominated to head the DE Court of Chancery

Recently, Delaware’s Gov. Jack Markell nominated Andre G. Bouchard, an experienced trial lawyer who has represented both sides in corporate disputes, as chancellor of the Court of Chancery, the country’s leading court for business disputes. The seat opened up when Leo Strine Jr., the former chancellor, left to serve as chief justice of the state’s Supreme Court. The nomination is awaiting confirmation by the Delaware Senate.

“In nearly 30 years practicing law in Delaware, Andy Bouchard has demonstrated a remarkable ability to dissect complex legal issues and vigorously represent his clients,” the governor said. “He is well-recognized for his professionalism and ability to think quickly on his feet in the courtroom.”

Free guided tour of revamped
Risk Premium Calculator

Jim Harrington (Duff & Phelps), the co-creator of the Risk Premium Calculator, will conduct a free webinar on April 17, The Duff & Phelps Risk Premium Calculator: Utilizing New Data & Features for 2014. Harrington will provide an exclusive look at how data from the new Valuation Handbook—Guide to Cost of Capital and the former SBBI Valuation Yearbook have been incorporated with new features into what is already the most powerful cost of capital determination tool available.

Current BV topics at ASA NYC conference May 2

Celebrate the end of tax season by attending the 21st annual Current Topics in Business Valuation conference, to be held in New York City on May 2. It is hosted by the American Society of Appraisers (ASA) and its NYC chapter. Sessions and speakers include:

  • Adam Smith (FASB) discusses current issues at the FASB;
  • Jim Hitchner (Financial Valuation Advisors) explains a new toolkit for determining DLOM;
  • Damien Hughes (PwC) looks at key issues regarding the multiperiod excess earnings method;
  • John Finnerty (Alix Partners) explains an option model for valuing startup companies; and
  • Craig TerBoss (EisnerAmper) talks about fund asset valuations.

Don’t miss it! For more information, click here.

BV movers . . .

People: Duff & Phelps announced the promotion of nine new managing directors: Larry Andrade, Enzo Carlucci, and Mitch Vininsky, all in Toronto; Gaurav Bhasin and Patrick Manion at Pagemill Partners, a division of Duff & Phelps in Silicon Valley, Calif.; Richard Chase at the Chicago office; Jaime d’Almeida in Boston; James Palmer in London; and Doug Ellis at the Houston office … Peter Lang joined BlumShapiro as a partner in its consulting practice in Newton, Mass. … Warfield and Co., CPAs Ltd. announced its affiliation with Michael J. Levine CPA and Levine & McKinley CPAs, a local accounting firm in Northeast Ohio … Judith H. O’Dell, of Chestertown, Md., received the AICPA Special Recognition Award for her pursuit to improve company financial reporting standards through commonsense changes … Thomas John (T.J.) Way joined Cherry Bekaert as a director in the firm's tax practice in Greenville, S.C. … Former acting commissioner of the IRS Danny Werfel joined the Boston Consulting Group’s public sector practice as a director.

Firms: HFMWeek Magazine recognized Decosimo as one of the leading hedge fund auditing firms … The Nashville Business Journal selected LBMC as one of the 2014 Best Places to Work in the 101-to-499-employees business category … Inside Business presented Walthall CPAs with the NEO Success Award, which recognizes the top-performing companies in Northeast Ohio …The Birmingham Business Journal named Warren Averett LLC to the No.-2 spot in Best Places to Work (large business category).

Spring CPE fever

A good mix of topics highlight upcoming CPE offerings.
Using the Empirical Method for Determining DLOMs (April 24), featuring Bruce Johnson (Munroe, Park & Johnson). Amidst the noise and rancor of ongoing debates regarding DLOMs, a crucial point may be overlooked: The decrease in value caused by the discount for lack of marketability represents a market-made concession to compensate an investor for the increased risks of a less-marketable and illiquid concern. In this webinar, Johnson shows how this fundamental concept can be effectively utilized to determine a more sound and defensible discount for lack of marketability.

Valuing Assembled Workforce in Physician Practices (April 29), featuring Timothy Smith (American Appraisal). The AICPA's white paper on intangible asset valuation has reignited the debate over the value of trained workforce in physician practices. In this installment of BVR's 2014 Online Symposium on Healthcare Valuation, expert Timothy Smith sorts out the issues and the arguments with fresh research and logical analysis to help attendees safely and accurately value physician practice workforces.

Advanced Workshop on Monte Carlo Simulations: Applications & Examples (May 15), featuring David Dufendach and Randy Heng (both Grant Thornton). No less an authority than Marcus Aurelius may have been speaking of Monte Carlo simulations when he said, “If you are pained by external things, it is not they that disturb you, but your judgment of them.” Though far more recent than anything the Roman emperor might have encountered, the many unknowns surrounding Monte Carlo simulations have long caused fear, confusion, and trepidation. In this intensive, interactive, four-hour workshop, experts Dufendach and Heng allay those fears through a review of this powerful statistical method and two exhaustive case studies showcasing its proper use and interpretation.

We welcome your feedback and comments. Contact the editor, Andy Dzamba at: or (503) 291-7963
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In this Issue:

Valuation risk

ASCs drive BV work

Law firms

Expert valuation

Trial lawyer to head DE
Court of Chancery

Tour Risk Premium Calculator

ASA NY Conference

BV movers

Spring CPE




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