Valuations in Buy/Sell Agreements for Private Companies and - - PowerPoint PPT Presentation

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Valuations in Buy/Sell Agreements for Private Companies and Businesses

Mastering Standards and Best Practices to Calculate and Update Fair Market Value

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1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific

Kelly Noll Senior Financial Analyst GBQ Consulting Columbus Ohio Kelly Noll, S enior Financial Analyst , GBQ Consulting, Columbus, Ohio James Alerding, Partner, Clifton Gunderson, Indianapolis Brian Bornino, Director of Valuation Services, GBQ Consulting, Columbus, Ohio

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Valuations in Buy/Sell Agreements for P i t C i d B i Private Companies and Businesses Seminar

June 22, 2011 James Alerding, Clifton Gunderson jim.alerding@ cliftoncpa.com Kelly Noll, GBQ Consulting knoll@ gbq.com Brian Bornino, GBQ Consulting bbornino@ gbq.com

5

Today’s Program

Recent, Relevant Trends [Kelly Noll] Valuation S tandards That Affect Buy/ S ell Agreements Slide 7 – Slide 11 Slide 12 – Slide 28 [Jim Alerding] Critical Valuation Issues For All Buy/ S ell Agreements [Brian Bornino] Case S tudies Slide 29 – Slide 33 Slide 34 – Slide 56 [Brian Bornino and Kelly Noll] Related-Party Buy/ Sell Issues [Jim Alerding] Best Practices And Recommendations S lide 69 – S lide 75 Slide 57 – Slide 68 Best Practices And Recommendations [Brian Bornino] S lide 69 – Slide 75

6

RECENT RELEVANT TRENDS

Kelly Noll, GBQ Consulting

RECENT, RELEVANT TRENDS

7

Key To A Successful Buy-Sell Agreem ent

• Goal: Ensure a smooth and fair ownership transfer
• Improper valuation is a huge obstacle to this!
• Improper valuation results in costly, disruptive and

p p y, p time-consuming disputes.

• A no-win situation for everyone involved

A no win situation for everyone involved

• Takeaway: Proper valuation is KEY to a successful

buy sell agreement buy-sell agreement.

8

Difficulties I n Perform ing Valuations Today

• Proper valuation is difficult in today’s economic

environment.

• Many companies have had “unusual” performance

recently. Backward looking valuations emphasize “unusual”

• Backward-looking valuations emphasize “unusual”

performance and often lead to improper valuations.

• Sales multiples
• Earnings multiples
• Capitalization of earnings
• Book value

9

Key Valuation Concept: Valuation I s Forw ard-Looking: Do these companies have the same value? Do these companies have the same value?

• Identical historical cash flow; different future outlook
• Implications for backward-looking valuation models?

1 0

Today’s Goals

• Provide critical information needed to properly value a

company in the context of a buy-sell agreement p y y g

• Key valuation standards
• Critical valuation issues

Critical valuation issues

• The problems with fixed-price/ formula methods
• Potential areas of concern
• Related party buy-sell issues
• Best practices and recommendations

1 1

VALUATION STANDARDS THAT

Jim Alerding, Clifton Gunderson

VALUATION STANDARDS THAT AFFECT BUY/SELL AGREEMENTS

12

Why Issue Standards?

• The AICPA has the responsibility to provide guidance to its

members in all areas of practice members in all areas of practice.

• BV standards are designed to improve the consistency and quality
• f practice among AICPA members that provide valuation services
• f practice among AICPA members that provide valuation services.

13

Who Must Follow SSVS1?

• All members of the AICPA
• CPAs who are not members of the AICPA, if their state has adopted

AICPA standards as part of its accountancy law

14

When Does SSVS1 Apply?

It applies when a member is engaged to or as part of another It applies when a member is engaged to, or as part of another engagement, estimates the value of a business, business ownership interest, security or intangible asset.

15

Do Other AICPA Standards Apply?

• Yes, SSVS1 did not change or modify any of the AICPA ethical

standards so the following apply: standards, so the following apply: – Independence (Rule 101) – Integrity and objectivity (Rule 102) G l d d (R l 201) – General standards (Rule 201)

• Professional competence
• Due professional care

16

Other Standards (Cont.)

– General standards (Cont.) ( )

• Planning and supervision
• Sufficient relevant data

Compliance with standards (Rule 202) – Compliance with standards (Rule 202) – Confidential client info (Rule 301) – Contingent fees (Rule 302) – Acts discreditable (Rule 501) – Consulting Standard No. 1

17

Two Fundamental Factors

The process of valuation involves: The process of valuation involves:

• 1. The application of business valuation approaches and methods
• 2. The exercise of professional judgment in the valuation process

18

Exceptions From Standard

Not applicable when the value of an interest is provided to the member by the client or a third party and the member does not apply valuation by the client or a third party, and the member does not apply valuation approaches and methods or report on the value

19

Exceptions From Standard (Cont.)

Not applicable to internal use assignments from employers to Not applicable to internal use assignments from employers to employee members not in the practice of public accounting

20

Exceptions From Standard (Cont.)

Not applicable to mechanical computations that do not rise to the level Not applicable to mechanical computations that do not rise to the level

• f an engagement to estimate value

21

Using Work Of Specialists

• A valuation analyst should note the level of responsibility, if any,

being assumed for the work of the third party specialist being assumed for the work of the third party specialist

• The specialist’s report may be included at the option of the

valuation analyst valuation analyst.

22

Calculation Engagement

• The valuation analyst and the client agree on the specific valuation

y g p approaches and methods to be used, and the extent of the valuation procedures the analyst will perform; and

• The valuation analyst estimates the value in compliance with the

agreement.

• The results are expressed as a calculated value, either as a single

amount or as a range.

23

Valuation Engagement

• Analyze the subject interest
• Consider and apply appropriate valuation approaches and methods
• Prepare and maintain appropriate documentation – ask only for

info you intend to use

24

Calculation Engagement (Cont.)

• Does not include all of the procedures in a full valuation

engagement engagement

• Valuation analyst should consider most of the fundamental factors

considered in a full valuation considered in a full valuation

25

SSVS: Types Of Services And Reports

Type Of Service yp “Valuation Engagement” “Calculation Engagement” g g g g W itt R t

“Detailed report” “C l l ti t”

Written Report

“Summary report” “Calculation report”

O l R t

All d All d

Oral Report

Allowed Allowed

26

USPAP

• Applies to members of the ASA
• No legal requirement to follow USPAP (Uniform Standards of

Professional Appraisal Practice)

• IRS does not espouse a particular standard – just some standard

27

USPAP (Cont.)

• It does not have a calculation
• Report rules are very stringent
• Considering prohibiting communication of preliminary results and

drafts

28

CRITICAL VALUATION ISSUES

Brian Bornino, GBQ Consulting

FOR ALL BUY/SELL AGREEMENTS AGREEMENTS

29

Critical Valuation I ssues

• Formulas

Wh t d t b t d t i

• What was supposed to be an easy-to-determine

value is not so easy and is not agreed upon.

• Language
• Standard of value
• Process
• Discounts or no discounts
• Discounts or no discounts
• Importance of establishing value before triggering

event B f t i i t l ti i h i

• Before a triggering event, valuation is much easier,

since interests are aligned.

• After a triggering event, there are “sides,” and

tl i i

3 0

costly issues can arise.

Review Of Purchase Price Options

Fixed price

• E g “$9 000 (per share)”
• E.g., $9,000 (per share)
• Usually set at whatever price shareholders bought

in F l b d i

• Formula-based price
• E.g., “4 times five-year wtd. avg. EBITDA, less

debt”

• Intended to be easy to interpret, calculate
• Valuation-based price
• E g “fair market value of equity ” etc
• E.g., fair market value of equity, etc.
• Typically, an external valuation expert is hired.

3 1

Review Of How Com panies Are Valued

• I ncom e approach
• Based on a company’s

anticipated future cash flows and an investor’s required rate of return q

• Market approach

C th t

Valuation Conclusion

• Compare the company to

publicly traded and/ or transacted companies, and apply valuation multiples

Conclusion

• Asset approach
• What are the company’s

3 2

p y assets and liabilities worth?

Review Of Standards Of Value

1) “Fair market value (no discounts)” –or– “pro-rata l ”

Highest Value

value”

• Leads to a higher value than fair market value
• Common when shareholders bought in at non-

d d

Value

discounted price 2) “Fair market value”

• Applicable standard for estate/ gift/ other

valuations

• Includes control/ marketability discounts (for

non-controlling interests) 3) “Book value”

• Reported value of equity on the balance sheet
• Does not consider intangible assets, earnings

Low est

3 3

g , g

• Likely leads to the lowest value

Value

Brian Bornino, GBQ Consulting

CASE STUDIES

Brian Bornino, GBQ Consulting Kelly Noll, GBQ Consulting

34

Case Study No. 1 : Form ulas

I d t i l t f t I ndustrial parts m anufacturer

Case Study No. 1 : Overview

• Situation
• Key shareholder retires
• Formula-based agreement: “Shares will be purchased

using a formula of 4 times 3-year weighted average ” EBITDA.”

• Issues
• Company had recent extraordinary income and expense

items (should EBITDA be “normalized/ adjusted”?).

• Company has lots of debt and cash (how do you treat?).

p y ( y )

• What was supposed to be an easy-to-determine value is

not so easy and is not agreed upon.

• After long negotiations, a valuation is sought, but by this

3 6

g g , g , y time, shareholders’ interests are not aligned.

W hy Form ulas Should Be Avoided ( Part 1 a)

• Formulas often do not adequately define key terms -

Earnings: Normalized or actual?

Sales 15,000,000 $ COGS 9,000,000

W hat is appropriate EBI TDA? I ncom e Statem ent

( 5 0 0 ,0 0 0 ) $ Actual EBI TDA

Gross Profit 6,000,000 Plus: Bad Debt 500,000 Plus: Goodwill Writ e-off 700,000 SG&A Expenses 4,000,000 Plus: Ext raordinary Lit igat ion 1,300,000 Depreciat ion 500,000 O t i I 1 500 000

2 ,0 0 0 ,0 0 0 $ Norm alized EBI TDA

Operat ing I ncome 1,500,000 I nt erest Expense (300,000) Bad Debt ( 500,000) Goodw ill W rite- off ( 700,000) Extraordinary Litigation ( 1,300,000)

These extraordinary expenses have b t l tl

3 7

Extraordinary Litigation ( 1,300,000) Pre-Tax I ncome (1,300,000) $

been extrem ely com m on recently

W hy Form ulas Should Be Avoided ( Part 1 b)

• Formulas often do not adequately define key terms -

What about debt, cash and non-operating assets?

Option # 1 Option # 2 Option # 3 EBITDA 2,000,000 $ 2,000,000 $ 2,000,000 $ x Multiple 4.0x 4.0x 4.0x Enterprise Value 8,000,000 8,000,000 8,000,000

• LT Debt

(1,000,000) (1,000,000) (1,000,000)

• Line of Credit

( 2 ,5 0 0 ,0 0 0 ) ( 2 ,5 0 0 ,0 0 0 ) + Cash 2 ,5 0 0 ,0 0 0 V t L d 2 0 0 0 0 0 0 + Vacant Land 2 ,0 0 0 ,0 0 0 Equity Value 7,000,000 4,500,000 9,000,000 # Shares 1,000,000 1,000,000 1,000,000

3 8

Stock Value $ 7 .0 0 / share $ 4 .5 0 / share $ 9 .0 0 / share

W hy Form ulas Should Be Avoided ( Part 2 )

• Formulas often do not adequately define (or neglect to

address the desired treatment of) key terms.

• Earnings: Normalized or actual?
• What about cash, debt and non-operating assets/ liabilities?
• Wording must be exact! Otherwise the agreement is vulnerable
• Wording must be exact! Otherwise, the agreement is vulnerable

to various interpretations and biases.

• Formulas are rarely able to accommodate fundamental
• Formulas are rarely able to accommodate fundamental

changes in business.

• “Fundamental changes” often go hand-in-hand with buy-sell

triggering events!

3 9

W hy Form ulas Should Be Avoided ( Part 2 )

• Depending on the formula, purchase prices can be

easily manipulated by controlling shareholders.

• Bottom line: No formula can account for every

business condition and situation … business valuation involves judgment and cannot be “boiled down” into a

• es judg

e t a d ca

• t be

bo ed do to a single formula that always works.

4 0

Case Study No. 2 : Valuation Language

M k ti i fi Marketing services firm

Case Study No. 2 : Overview

• Situation
• 60% / 40% shareholders, each critical to the business
• 40% shareholder is essentially forced to sell
• Standard of value: “Fair market value of assets minus
• Standard of value: Fair market value of assets minus

liabilities, multiplied by the pro-rata ownership interest”

• Each side must hire a valuation expert; if values are not

within 20% , then a third is hired, and they average the closest two.

• Issues
• Standard of value is open to interpretation.

p p

• Company performance has improved dramatically in

recent years, but there is disagreement as to why.

• Shareholder’s exit may have an impact on value.

4 2

y p

• Strong disagreement in business value; litigation ensues

I m provem ents I n Com pany Perform ance: Perm anent Or Tem porary? Perm anent Or Tem porary?

Revenue Adjust ed EBI TDA

$4 0 $5.0 $6.0 $4.3 $5.5 ( m il.) $800 $1,000 $1,200 $1,400 $1,019 $1,251

j

( thou.) $- $1.0 $2.0 $3.0 $4.0 $1.8 $1.8 $2.1 $( 200) $- $200 $400 $600 $800 $144 $( 66) $185

• Is recent growth permanent or temporary?

2004 2005 2006 2007 LTM 2004 2005 2006 2007 LTM

• Will loss of the shareholder affect the business?
• Completely different stories from both sides

4 3

The Dangers Of “Hired Gun” Valuators

Valuator Value Of 4 0 % I nterest Valuation Approach Valuator # 1: $140,000

FMV of assets & liabilities on the balance sheet (i.e., no

I nterest Approach

the balance sheet (i.e., no intangibles); no discounts

Valuator # 2: $1,950,000

FMV of all assets/ liabilities using market & income using market & income approaches; no discounts; all growth will continue

V l t # 3 $1 250 000

FMV f ll t / li biliti

Valuator # 3: ( GBQ) $1,250,000

FMV of all assets/ liabilities using market & income approaches; no discounts; some growth was abnormal

4 4

Result: $ 1 ,6 0 0 ,0 0 0

Average of tw o closest

Different Buyouts For Different Valuation Requirem ents Different Valuation Requirem ents Valuation Requirem ents Resulting Value Of 4 0 % I nterest 1) Average of closest 2 $1,600,000 Valuation Requirem ents Of 4 0 % I nterest 2) Average of all 3 $1,113,333 4) Valuator No. 3 is tie-breaker $1,250,000 3) Average of No. 1 and No. 2 $1,045,000 4) Valuator No. 3 is tie breaker $1,250,000 5) Valuator No. 3 picks better of No. 1

• r No 2

$1,950,000

4 5

• r No. 2

Case Study No. 3 : Valuation Process

Professional services firm Professional services firm

Case Study No. 3 : Overview

• Situation
• Company obtains annual/ semi-annual independent

valuations.

• Six shareholders in the business
• Purchase price language seems clear: ”Fair market
• Purchase price language seems clear: Fair market

value of shares”

• Issues

Shareholders originally purchased shares at “pro

• Shareholders originally purchased shares at “pro-

rata value,” but the agreement calls for fair market value (should discounts apply?).

• Not all shareholders participate in the valuation
• Not all shareholders participate in the valuation

process or view valuation reports.

• The selling shareholder disagrees with valuation,

and litigation ensues

4 7

and litigation ensues.

The “Hired Gun” Strikes Again

GBQ Valuation Hired Gun Valuation

EBITDA x Multiple Enterprise Value $ 800,000 x 3.63 2 900 000 $1,000,000 x 3.63 3 630 000 Enterprise Value

• Debt (Net)

Equity Value 2,900,000

• 170,000

2,730,000 3,630,000

• 170,000

3,460,000 # Shares Pre-Discounted Value Marketability Discount 300 $9,094

• 35%

300 $11,533 Not applied FMV Per Share $5,911 $11,533

Result: Share price nearly double the GBQ valuation!

4 8

Case Study No. 3 : Outcom e

• Costly and distracting litigation
• Dispute lasted three-plus years
• ~ $200,000 of legal costs
• Company essentially prevailed
• Mediation attempts failed

p

• Negotiations broke down
• Company was prepared to fight in court
• Settled the value ($6K/ share) at 11th hour

4 9

How Could This Situation Have Been Avoided?

• “Belt-and-suspenders approach” to valuation language in the

A t Agreement

• Explicitly state whether discounts should apply
• Much of dispute centered around shareholders’ original

d h f h h b h l intent and the fact that they bought in at pro-rata value

• Involve all shareholders in annual valuation process
• All shareholders would have reviewed all valuation
• pinions and reports.
• All shareholders would know the valuation approach

pp ahead of time.

• Disputes could be addressed before a triggering event.
• Valuation price would be known …

debate/ disagreement

5 0

p / g would be eliminated

Case Study No. 4 : Establishing Value P i T A T i i E t Prior To A Triggering Event

Retail store chain Retail store chain

Case Study No. 4 : Overview

• Situation
• The agreement calls for a buyout at “fair market

value,” as determined by a qualified valuation firm.

• The agreement is clear on everything except for the

valuation date. a uat o date

• Parties decide to attempt to negotiate themselves

and avoid the perceived time expense and and avoid the perceived time, expense and uncertainty of an independent valuation.

5 2

Different Sides, Different Stories

• Issues
• Remaining/ exiting shareholders engage in lengthy negotiations

to determine purchase price, but no agreement is reached.

• During the delay, the company performance tanks, along with

the industry (and the economy) the industry (and the economy).

• Once the valuation team is brought in, the offer prices were

very far apart.

5 3

Offers Are Not Even Close

Com pany Offer Exiting Shareholder Offer

Value of 100% of equity $700,000,000

Offer Shareholder Offer

V l f 5% i t t $ 35 000 000 $200,000,000 Value of 5% interest

(pro-rata, no discounts)

$ 35,000,000 $ 10,000,000

5 4

Case Study No. 4 : Valuation Objections

• Conduct an objective interview process and meet with

both shareholders to learn their perspectives

• Conduct comprehensive due diligence and “ask the

Conduct comprehensive due diligence and ask the right questions” to assess the correct value Rely heavily on industry data and market approach

• Rely heavily on industry data and market approach

(e.g., public company and transaction multiples), since neither side is objective in this case, and both sets of projections are unusable p j

5 5

How Could This Situation Have Been Avoided?

• Annual valuations before a triggering event

Sh h ld ’ i f h lik l b

• Shareholders’ views of the company are likely to be

more consistent before a dispute.

• A valuator can rely on company-prepared forecasts

ith fid with confidence.

• Will result in better, more accurate, more fair

valuations and greater certainty for shareholders

• Act quickly
• Quickly seek a valuation after the triggering event;

delays can magnify diverging opinions or biases.

• Specify the valuation date in the agreement
• The date of a valuation can have a major impact on

the conclusion

5 6

the conclusion.

RELATED‐PARTY BUY/SELL

Jim Alerding, Clifton Gunderson

/ ISSUES

57

Fixing Value Of Estate

• Special valuation rules – I.R.C. §2703
• Buy-sell agreement must satisfy the following rules:

– Be a bona fide business arrangement - §2703(b)(1) – Not be a device to transfer business interest to family members for less than full and adequate consideration - §2703(b)(2) – Be comparable to similar arrangements entered into by unrelated parties bargaining at arm’s length - §2703(b)(3)

58

Fixing Value Of Estate (Cont.)

• Cannot fix price between family members
• Bottom line: Purchase price needs to be fair market value or based
• Bottom line: Purchase price needs to be fair market value, or based

upon a formula that approximates fair market value Whi i l

• Whipsaw potential

– State law will likely declare a sale made for less than fair market value to be binding.

59

Directors Set The Value?

• Do you require a new appraisal, if no value is set annually?

– How many companies set the value annually?

• If the agreement calls for this and it is not done the normal
• If the agreement calls for this and it is not done, the normal

default is to require a valuation. Is that really what you want? If they do set the value is that value even remotely close to – If they do set the value, is that value even remotely close to FMV?

• Many times, the directors “wing it” on the value and simply

use book value or use a simple formula such as 3x earnings use book value, or use a simple formula such as 3x earnings. As seen above, this approach can be ripe for manipulation and litigation.

60

Buy/Sell Issues Related To Valuation

• Does the agreement lock in a value for the stock of a departing

shareholder? – If so does it reflect fair market value at the time and into the If so, does it reflect fair market value at the time and into the future? –

• Chap. 14, Sect. 2703 requires a market-based business

arrangement for businesses owned >50% by family members arrangement for businesses owned >50% by family members, directly or indirectly.

61

Pre‐Transfer Issues

• Is there excess cash or other non-operating assets that can be

removed prior to transfer, without affecting value? – Depending on the method utilized to value the company the Depending on the method utilized to value the company, the impact may be negligible.

• Can the value of the company be reduced prior to the transfer to
• Can the value of the company be reduced prior to the transfer, to

allow for the next generation to better afford the transaction while getting the value to the owners/parents? E g take on Corporate debt and distribute out AAA – E.g., take on Corporate debt and distribute out AAA

62

Pre‐Transfer Issues (Cont.)

• Should consideration be given to deferred compensation

arrangements for key officers/owners to ensure loyalty, compensate for past services? p – This may lower the value prior to transfer, due to the booked liability – Also “replaces” owners’ prior compensation without increasing Also replaces owners prior compensation without increasing corporate outflows

• Do your key people have non compete agreements?
• Do your key people have non-compete agreements?

63

Application Of 2006 Pension Protection Act To Valuation

• Original purpose appeared to be for income tax, particularly in the

charitable income tax deduction arena.

• Sect. 1219 specifically states that penalty provisions under 6695A

apply to income AND estate and gift tax valuations.

• A value used for charitable deduction purposes must be a

“qualified appraisal” prepared by a “qualified appraiser.”

64

Qualified Appraiser

• Has earned an appraisal designation from a recognized
• rganization
• Regularly performs appraisals for which he/she receives

compensation

• Can demonstrate education and experience
• Not been prohibited from IRS practice

65

Internal Revenue Code

• Chap. 14
• Chap. 14 (Internal Revenue Code sections 2701-2704), enacted by the

Omnibus Budget Reconciliation Act of 1990, focuses on the taxation

• f transfers of corporate and partnership interests, the impact of

p p p , p buy-sell agreements on such transfers, the effect that certain lapsing rights have on the value of property subject to a transfer, and the taxation of transfers in trust. Sections 2701, 2703 and 2704 affect limited partnerships and limited liability companies (LLCs).

66

Voting Vs. Non‐Voting Shares

• Planning opportunity

g pp y – Recapitalize stock into voting and non-voting (preferably small % as voting) – E g: 1% voting and 99% non-voting E.g: 1% voting and 99% non voting

• All 99% can be transferred at a discounted value – size of

discount depends on factors

• Don’t modify an agreement made before Oct 8 1990 if the
• Don t modify an agreement made before Oct. 8, 1990 if the

modification would be deemed substantial under IRS

• regulations. If substantial/material, you will pull the

agreement into the IRC Chap 14 rules Re-cap is NOT a agreement into the IRC Chap. 14 rules. Re cap is NOT a substantial modification per PLR 200103038

67

Voting Vs. Non‐Voting Shares Key Planning Issue

• Non-voting shares may be gifted at minority values up to 100% of

total non-voting shares.

• Minority interest in voting shares can be gifted at minority values

up to 49% of the outstanding voting shares. However discounts will vary depending on the make up of the – However, discounts will vary depending on the make-up of the voting shareholders (swing vote value).

• Three shareholders 49%, 49% and 2%; the 2% value

(although a minority) may carry more value per share than a (although a minority) may carry more value per share than a 2% share in a company that has a more diversified

• wnership base.

68

BEST PRACTICES AND

Brian Bornino, GBQ Consulting

RECOMMENDATIONS

69

General Best Practices

• I nvest in experienced, w ell-regarded legal and

financial advisors

• Especially important when drafting the agreement
• I nvolve all m ajor shareholders in the process

I nvolve all m ajor shareholders in the process

• Should lead to less surprises later
• Can reveal whether shareholder goals are aligned
• Clearly address conceivable issues up front
• More difficult to resolve issues once shareholders

interests diverge g

• Seek valuations annually ( or at least every few

years)

7 0

W hy Annual Valuations Are Recom m ended

• Shareholder certainty and com fort
• The valuator can build a relationship with all parties (including
• The valuator can build a relationship with all parties (including

shareholders who may eventually exit the business).

• Shareholders learn the critical factors to the valuation and

understand what future buyouts will look like … fewer surprises!

• More accurate and tim ely valuation
• The valuator is better able to learn about the business and

assess the nature of company projections. Avoid unnecessary time pressure for company shareholders and

• Avoid unnecessary time pressure for company, shareholders and

valuator

• Cost-benefit analysis is clear
• Invest a small annual fee to create comfort and avoid costly
• Invest a small annual fee to create comfort and avoid costly

issues later

• Annual valuations can be customized to satisfy multiple uses

(e.g., estate and gift tax planning, issuing stock options, possible sale of the business goodwill impairment testing)

7 1

sale of the business, goodwill impairment testing)

W hy One Valuator May be Best

• Our View: Using a single, high-quality valuation firm

with a reputation for independence/ objectivity and quality is preferable to a multiple valuator scenario, even if the up-front cost per valuation is higher (which it likely will be) it likely will be).

• Multiple experts can encourage “hired guns.”
• Multiple experts are costly – especially when buy-outs

are common.

• A “hybrid” provision can be put into the agreement to

avoid giving one firm unmitigated control

7 2

avoid giving one firm unmitigated control.

The Value A Quality Appraiser Adds

• A valuation opinion that is based on the proper factors
• Assessment of future potential vs. calculation of historical

results

• Consideration of appropriate valuation methodologies

( k h h (e.g., market approach, income approach, asset approach)

• Thorough due diligence process that includes interviews with

all relevant parties all relevant parties

• Valuation expertise and business acumen to analyze

business conditions and prospects, assess honesty, determine bias

• The experience and ability to “ask all the right questions”

… and hopefully, com fort for all parties that they’re getting an objective opinion from an unbiased

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g g j p professional!

Recom m ended Purchase Price Language

• To include discounts: The purchase price shall be the

fair market value of the shares to be purchased, including appropriate valuation discounts (i.e., for lack f t l k t bilit t ) f th d t f th

• f control, marketability, etc.) as of the date of the

triggering event.

• To exclude discounts: The purchase price shall be

the fair market value of the shares to be purchased, multiplied by the applicable ownership interest, on a pro rata basis excluding consideration of any valuation pro-rata basis excluding consideration of any valuation discounts (i.e., for lack of control, marketability, etc.) as of the date of the triggering event.

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Checklist: Other I tem s To Address

• Who pays the cost of the valuation(s)?
• The company is able to pay with pre-tax money.
• The company is able to pay with pre tax money.
• Who buys the shares (company or shareholders)?
• The company typically has greater financial

resources.

• When does the seller get his/ her money?
• The larger the shareholder, the more important the

terms terms.

• What is the process for handling disputes?

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• Just in case …