Chancery blasts expert over manipulated valuation
The judges on the Delaware Court of Chancery are known for their sharp intellect and, sometimes, sharp tongues. Still, a recent decision stands out for the court’s stinging rebuke of a financial firm that enabled a series of problematic transactions.
Dropping assets: In spring and fall 2010, a parent entity off-loaded interests in two subsidiaries to a master limited partnership (MLP) that it controlled through ownership of a company that served as the MLP’s sole general partner. The MLP was organized as a pass-through entity. The transactions were acquisitions in which ownership interests “dropped down” from the parent to the MLP such that the parent could reap the tax benefit and obtain capital at the lowest possible cost. The subsidiaries owned a liquefied natural gas (LNG) import terminal and a natural gas pipeline. By 2010, there was decreasing demand for LNG imports, which had the parent company worried about the stability of long-term service contracts one subsidiary had with Shell and British Gas.
The dropdowns prompted several lawsuits in which the MLP’s common unit holders alleged the MLP paid inflated prices for the assets. Also, members of the special committee that had to approve the transactions breached the governing partnership agreement that required them to believe in good faith that the dropdowns were in the best interests of the MLP. The Chancery dismissed the claims related to the spring dropdown but allowed the fall dropdown claims to be tried. Subsequently the court said it expected that at trial the committee members and their financial advisor would provide a credible account of how they evaluated the fall dropdown. Instead, it found they “had no explanation for what they did.” The committee members “went against their better judgment and did what Parent wanted, assisted by a financial advisor that presented each dropdown in the best possible light, regardless of whether the depictions conflicted with the advisor’s work on similar transactions or made sense as a matter of valuation theory.”
Eyes on fees: The financial advisor did none of the “real work” an advisor to a committee does, the court said. The advisor’s “real client was the deal, and the firm did what it could to justify the Fall Dropdown, get to closing, and collect its contingent fee.”
The Chancery found instances of “nonfeasance” and “malfeasance.” When the committee asked the financial advisor to assess the parent’s proposed fall dropdown in light of the weakening LNG market, the advisor went to the parent for feedback. Not surprisingly, the parent replied that the situation was stable and the assets were solid. The financial advisor also manipulated valuation methodologies to make the parent’s asking price more palatable, the court said. While a financial advisor need not treat every transaction in the same way, “it would be surprising if every one of the changes moved the analysis in the same direction.” This happened here. The general partner breached the agreement and caused $171 million in damages, the court decided.
Takeaway: The overpayment was made possible because the financial advisor abdicated its responsibility to the special committee, whose members in turn subordinated their independent views to the parent’s wishes, the Chancery concluded.
Find a detailed discussion of In re El Paso Pipeline Partners, L.P. Derivative Litigation, 2015 Del. Ch. LEXIS 116 (April 20, 2015), in the July edition of Business Valuation Update; the court’s opinion is available at BVLaw.
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Value of physician compensation on the hot seat
Physician compensation arrangements that exceed fair market value may violate federal fraud statutes and be subject to stiff financial penalties and prosecution, says a new fraud alert from the Office of Inspector General (OIG), the leading federal healthcare law enforcement agency. The OIG recently reached settlements in a dozen cases involving alleged violations.
Referral problem: The OIG, an agency of the U.S. Department of Health and Human Services, warns that compensation arrangements such as medical directorships must reflect fair market value for services actually provided. “Although many compensation arrangements are legitimate, a compensation arrangement may violate the anti-kickback statute if even one purpose of the arrangement is to compensate a physician for his or her past or future referrals of federal healthcare program business,” the alert says.
A few years ago, a court ruled that a hospital ran afoul of these rules and faced potential penalties in excess of $350 million—almost triple the amount of net assets the hospital had at the time. That case was U.S. ex rel. Drakeford v. Tuomey Healthcare Systems, Inc., C/A No. 3:05-2858-MBS (D. S.C.).
For more information: Regulatory matters and how they impact healthcare compensation valuation are fully examined in the BVR/AHLA Guide to Healthcare Industry Compensation and Valuation.
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Global BV news
Trademark valuation of global banking brands
A peer group analysis from Markables covers 34 brands of retail and commercial banks from 18 countries. Based on both royalty rates and brand value as percentage of enterprise value, brands are of minor importance in the banking sector. The core deposit intangible (CDI) is the most important intangible asset. The analysis suggests a median royalty rate for banking brands of 1.0% and a share of enterprise value of 2.2%. The multiples observed are much lower than what the various league tables on the most valuable global brands (as released by Brand Finance, Millward Brown, and Interbrand) suggest for brands such as Wells Fargo, HSBC, Royal Bank of Canada, Toronto Dominion Bank, and others.
The valuation of banking brands can be a challenging task, for a number of reasons:
- It is important to make a clear distinction between the customer intangibles (i.e., the core deposit intangible and the customer relations) and the brand name.
- It is quite difficult, if not impossible, to find comparable royalty rates for banking trademarks.
- The revenue base must be clearly defined. The revenue base for banks is typically defined as “net interest income plus noninterest income.”
- The effects of the financial crisis on the reputation and trustworthiness of banks need to be considered, depending on the subject bank to be valued.
Markables has a database of over 6,500 trademark valuations published in financial reporting documents of listed companies from all over the world. The database reports value solely for the use of trademarks (not bundled with other rights).
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IIBV’s new board of directors
The International Institute of Business Valuers (IIBV) unveiled its 2015-2016 board of directors. IIBV, an umbrella organization of business valuation professional organizations (VPOs), promotes the sharing of best practices in the industry through its program of education courses delivered globally. The new board includes chairman Robert B. Morrison (U.S.), Mary Jane Andrews (Canada), Laurent Després (Canada), Paul Gill (Canada), Liying Han (China), Soltan Aljorais (Saudi Arabia), Ray Moran (U.S.), Bill Stamatis (Canada), and Edwina Tam (Hong Kong).
The current members of the IIBV include: The American Society of Appraisers, The Canadian Institute of Chartered Business Valuators, China Appraisal Society, and The Saudi Authority for Accredited Valuers (TAQEEM).
The IIBV can be found at www.iibv.org. For more information, contact Michael Badham, IIBV’s executive director, at michaelbadham@iibv.org.
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Pratt’s Stats hall of famers for 1Q15
Business brokers and other intermediaries submit deal information to Pratt’s Stats, which lists over 23,000 private-company merger and acquisition (M&A) transactions in its database. Intermediaries who contribute the most transactions are inducted into the Pratt’s Stats Hall of Fame. For the first quarter of 2015, they are:
- William Gibson, William E. Gibson & Associates (Pensacola, Fla.);
- Leon Parker, New Hampshire Business Sales (Pembroke, N.H.); and
- Scott Perry, Gateway Mergers and Acquisitions (Carrollton, Texas).
Sincere thanks to these and all of the individuals who have helped BVR build Pratt’s Stats into the important data source that it is today.
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USPAP 50%-off sale ends soon
The clock is ticking on The Appraisal Foundation’s spring sale. You can get 50% off printed copies of USPAP 2014-15 until June 30 or while supplies last. But it’s available only by calling 800-348-2831 (please mention promo code 050650). The discount is 50% off the retail price of $75 (shipping and handling are extra). The discount does not apply to previous orders or bulk pricing and is limited to one order per person.
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Preview of the July issue of Business Valuation Update
Here’s what you’ll see:
- S Corp Valuation, DLOM Rulings Highlight NYSSCPA BV Conference (BVR editor). Tips and advice on hot topics that include PTE valuations, commercial damages, fair value, business divorce, marital dissolution, fairness opinions, and expert testimony. Also, a New York judge gives some unique insights. The New York State Society of CPAs sponsored this event.
- The Double-Dip Concept Is Often a Misconception (Robert W. Levis, CPA/ABV, ASA). In the context of divorce, the “double-dip” concept is, in many cases, a delusion. Where valuators see a double-dip, it may not really exist.
- BVU Profiles: An Interview With Pablo Fernandez. A widely published author who conducts a regular survey of global market risk premiums and risk-free rates, Fernandez created a stir in the business valuation community with his paper, “CAPM: An Absurd Model.” He speaks candidly to Michael Crain, DBA, CPA/ABV, ASA, CFA, CFE (Financial Valuation Group).
- 20 Questions to Ask When Doing Due Diligence for an IP Valuation (BVR editor). Thomas Wolfrum (Wolfrum Family Law) advises how to probe for information when valuing sometimes elusive intellectual property, such as patents, trademarks, copyrights, and trade secrets.
- Checklist of Special Information to Request for the Valuation of a Law Firm (BVR Editor). Ronald Seigneur, CPA/ABV, ASA, CVA, CFF, CGMA (Seigneur Gustafson LLP), offers up a handy listing of very specific items to ask for when collecting data from a law firm you’re valuing.
- New Features: Ask the Experts and Tip of the Month. Valuation experts answer puzzling questions and give some practical advice on a wide variety of topics.
To read these articles—as well as digests of the latest court cases—see the July issue of Business Valuation Update (subscription required).
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Benchmark data available for seller's discretionary earnings
A new BVR special report reveals what small-business owners are achieving in seller's discretionary earnings. Using Pratt's Stats, a database of over 23,000 business transactions, an analysis is made of seller's discretionary earnings in sold private businesses with metrics including discretionary earnings to revenue, selling price to discretionary earnings, and profit margins. The information is presented by sector and company size with benchmarking from 21 industry groupings ranging from real estate and personal services to restaurants, construction, and more.
For more information on the report, Benchmarking Seller’s Discretionary Earnings in a Small Business: Based on data from Pratt’s Stats,plus an excerpt and example charts, click here.
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Online attendance at NACVA’s annual conference
Can’t travel to New Orleans to attend the NACVA/CTI Annual Consultants Conference June 24-27? You can attend the event from your office via an online webinar. NACVA has a special pricing deal that will allow multiple people in the same office to attend for one low price. For more information or to register for the online conference, call NACVA’s Member/Client Services at 800-677-2009. Scheduled tracks are:
- Business Valuation Foundations;
- Financial Forensics Foundations;
- Business Valuation Leading-Edge Topics;
- Financial Forensics Leading-Edge Topics;
- Valuing Family Limited Partnerships Workshop;
- Business Valuation and Financial Forensics Nuanced Topics; and
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BV movers …
People: Regan Sander joins Valuation Research Corp.’s (VRC) Houston office as managing director and will lead the MLP practice’s valuation of energy-related assets … Linda Trugman was elected international president of the American Society of Appraisers (ASA), and Gary Trugman was elected to the Business Valuation Committee of the ASA. Both are with Trugman Valuation Associates (Plantation, Fla.) … Michael Zovistoski, a partner at UHY LLP and managing director of UHY Advisors NY Inc. in Albany, N.Y., was elected president of the New York State Society of CPAs.
Firms: Montreal accounting firm Fauteux, Bruno, Bussière, Leewarden (FBBL), with over 110 employees, and BDO Canada LLP have merged, bringing the total employees to over 300 in Canada … The New York firms Insero & Co. CPAs (offices in Rochester and Corning) and Ciaschi, Dietershagen, Little, Mickelson & Co. LLP (offices in Ithaca, Cortland, and Watkins Glen) agreed to merge their combined workforce of over 125 employees and will operate under the Insero & Co. brand … Johnson O’Connor Feron & Carucci LLP of Wakefield, Mass., has been admitted into AGN International North America Inc., an association of independent accounting and consulting firms … Ryan, a global tax services firm, was named one of the “2015 Best Employers” in Ohio.
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Exciting CPE events to wind up the month of June
These CPE events are waiting in the wings:
Important note to webinar attendees: To ensure that you receive your dial-in instructions to BVR’s training events, please make sure to whitelist bvreducation@bvresources.com.
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We welcome your feedback and comments. Contact the editor, Andy Dzamba at:
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