A soon-to-be-published book is being hailed as a major advance in the area of valuations of pass-through entities. It challenges traditional notions about the differences in value between a pass-through entity and the public market C corporation. The new book reveals an abundance of research that shows that shareholder-level taxes do indeed affect a firm’s value. Up to now, this position has been refuted by the IRS and the Tax Court, largely because data has never been presented to support it. This work should provide valuation professions with the evidence they need to support their valuation conclusions. It also provides a suggestion for a new, more direct approach to pass-through entity valuation.
In the works for seven years, the book presents over 60 academic studies and papers that demonstrate that shareholder-level taxes have a definite effect on firm value. The new book, Taxes and Value: The Ongoing Research and Analysis Relating to the S Corporation Valuation Puzzle by Nancy J. Fannon (Meyers, Harrison and Pia LLC) and Keith Sellers (University of Denver), will be published by Business Valuation Resources.
Although the book will not be available until April, you can pre-order it now if you click here.
“As a maturing industry, valuation services have become increasingly commoditized,” observes Kevin Yeanoplos (Brueggeman and Johnson Yeanoplos PC). “As more people have considered the profession as a career choice, there has been continued downward pressure on fees. At times I’ve wondered if we will ultimately be paying the clients for the chance to do the work,” he tells BVWire.
Rod Burkert (Burkert Valuation Advisors LLC) weighs in on the fee issue: “I believe fee compression will continue to be a concern, especially for practitioners who don’t differentiate themselves by specializing in a niche and whose deliverable is ‘just’ a report.” BVWire notes that Burkert is a co-developer of the Practice Builder Academy, which is designed to help BV practitioners attract more work.
Other developments affecting fees are changes in GAAP for private companies that have also changed the need for fair value work, according to Yeanoplos. “As a result, the pool of companies requiring valuation of intangibles has diminished, putting the brakes on this area somewhat as an area of practice growth.” He also points out that, because of fundamental economic changes over the past six years, “more divorce attorneys are attempting to settle their cases without having a formal valuation done, thereby reducing overall fees.” He points out that valuation experts “have been forced to consider innovative ways to provide value to clients, such as strategic planning.”
Another way BV experts can provide value to clients is to help business owners understand value and help them see how they can tap into that value. “Interest in the BV arena has been keen on this topic, since it provides a different way of talking to business owners and a means of enhancing the relevance of what we do in the private wealth planning process,” says Z. Christopher Mercer (Mercer Capital). Mercer is the author of a new book, Unlocking Private Company Wealth, which is designed to help you help business owners manage the wealth they create in their private business and understand how to talk to them in this regard.
For more comments, see the February 4 issue of BVWire (free registration required).
With the help of business intermediaries who submit deal information, Pratt’s Stats continues to be the leading private-company merger and acquisition (M&A) transaction database. BVWire reports that there is a Pratt’s Stats Hall of Fame, created by Business Valuation Resources to thank those intermediaries who have contributed the most transactions. For 2014, they are:
- Paul Chambliss, Front Range Business Inc. (Boulder, Colo.);
- Ronald Chernak, First Business Brokers Ltd. (Colorado Springs, Colo.);
- Jim DeShayes, Colorado Business Exchange (Fort Collins, Colo.); and
- Mark Doran, Choice Business Opportunities Ltd. (Denver).
Sincere thanks to these and all of the individuals who have helped BVR build Pratt’s Stats into the trusted and reliable data source that it is today.
When a Canadian trial court decided last year to strictly control the interaction between experts and counsel and compel production of draft reports, business valuators mobilized. Together with lawyer associations, they supported the ensuing appeal. BVWire reports that the Court of Appeal’s newly released decision is cause for cheer—it sided with the challengers. The case is Moore v. Getahun, 2015 ONCA 55 (Jan. 29, 2014).
Even though this opinion carries no weight in U.S. courts, it merits attention from practitioners in this country. In addition to discussing the discovery rules applicable to draft expert reports, the Ontario appeals court provides a rationale for why mandatory disclosure and production of drafts has a negative effect on a party’s case and on judicial proceedings.
For more details, see the February 4 issue of BVWire (free registration required).
Private companies in the mining and finance/insurance/real estate industry groups have the highest values relative to their revenues, according to the latest quarterly Pratt’s Stats Private Deal Update (available with a subscription to the Pratt’s Stats deal database). These industry groups have a median selling price/revenue valuations multiple of 1.84 and 1.13, respectively. At the low end are firms in the retail (0.37) and construction (0.41) industries. BVWire includes a table that presents the total count of transactions in Pratt’s Stats by major industry group as well as median valuation multiples. The data in the table include private companies purchased by public and private companies. There are now over 22,000 private-company transactions in the database.
Free download: BVWire also provides a link to an excerpt from the 4Q2014 issue of Pratt’s Stats Private Deal Update, which summarizes and analyzes private-company acquisitions by private and public buyers. It also includes industry and economic forecast information.
BVWire recently asked for some observations on significant developments in BV over 2014 and what 2015 has in store. Members of the editorial advisory board of BVR’s Business Valuation Update responded. Here’s a sample of their comments.
Neil J. Beaton (Alvarez & Marsal Valuation Services) offers thoughts from his perspective, which is performing valuations for early-stage, high-tech companies, “The two big developments shaping valuations for these firms were new platforms for funding companies and a significant increase in the ability of founders and early employees to sell their shares before the company has a liquidity event,” he says. He’s referring to the crowdfunding platforms that emerged through the Jumpstart Our Business Startups (JOBS) Act. He’s also talking about new mechanisms for the sale of ownership interests created by some innovative law firms.
As for his outlook for 2015, he observes: “More of the same! IPOs are on the rise, oil prices are dropping, and we have a new Congress and Senate.” He continues: “China is taking off as a start-up mecca and the newly minted Alibaba billionaires can be expected to plow that new-found wealth back into new companies like we see in Silicon Valley all the time. The Indian start-up scene is also heating up as the tech economy has matured significantly into a business base of its own versus the ‘offshore, cheap labor source’ India was known for in previous years. I expect to see a lot more IPOs in India, which, of course, will spill over into the U.S. markets as competition for dollars heats up. I’m already seeing increases in average pre-money valuations (see PitchBook’s 2014 VC Overview), and that trend can be expected to continue through 2015 if the economy stays on track.”
For more comments, see the Jan. 14, 2015, issue of BVWire, a free weekly ezine.
What were the most significant BV developments in 2014? What can we expect for 2015? BVWire posed these questions to the editorial advisory board of BVR’s Business Valuation Update. Here are a few comments.
“Last year witnessed a growing skepticism of the capital asset pricing model in academia and elsewhere,” says Ted Israel (Eckhoff Accountancy Corp.). “It’s as if CAPM is cowering in the castle while the villagers assemble outside with torches and pitchforks.” However, he says nothing better has come along—yet. “Dohmeyer, Butler, et al. have offered up the implied private company pricing line, which is interesting but needs more vetting (and they invite it). All of this leaves the practitioner in a quandary over what to do.” Looking ahead to the rest of 2015, Israel says: “I think we better arrive at some consensus about the cost of capital.”
Speaking of cost of capital, the introduction of Duff & Phelps’s Valuation Handbook – Guide to Cost of Capital was a major advance, according to Ron Seigneur (Seigneur Gustafson LLP CPAs). “While many thought we would have a gap with respect to cost of capital information, Duff & Phelps has more than filled that gap. It provides solid information and is very well organized.”
Seigneur also points out that the changes in estate tax limits have “resulted in less than 1% of U.S. taxpayers being exposed to estate tax.” As a result, he says the need for estate tax-related planning valuations has subsided, especially after the surge BV practitioners witnessed at the end of 2012 and into 2013. “Those who focus on this work see softness in their work flows.” Seigneur sees 2015 as busier than ever with litigation work and M&A engagements. “As long as the current ‘irrational exuberance’ in the stock market lasts, we will all be busy—or should be.”
For more comments, see the Jan. 7, 2015, issue of BVWire, a free weekly ezine.
The New York business divorce case involving the valuation of a 50% interest in the company that makes AriZona Iced Tea has prompted comments from Gil Matthews (Sutter Securities Inc.). He tells BVWire that one of the “substantial” problems in the ruling is the decision regarding the discount for lack of marketability (DLOM), which resulted in a “material windfall” to the continuing shareholder.
The plaintiff’s expert argued for zero DLOM because the company was successful and there were a number of “expressions of interest” from potential acquirers. The defendant’s expert asked for a 35% DLOM. The court decided a 25% DLOM was appropriate. This “results in the petitioner receiving 3/8ths of the value of the company, inequitably valuing the continuing shareholder’s half-interest at 60% more than the petitioner’s half-interest,” says Matthews. The court gave four reasons for applying a 25% DLOM. One of the reasons is the transfer restrictions in the owners’ agreement, which is relevant to a DLOM, says Matthews. But the other three reasons the court gave seem “questionable,” he says.
- AriZona did not have audited financials. “However, the opinion also states that ‘Arizona’s financial statements can be readily audited, particularly when the shareholders are no longer battling with each other,’” Matthews says.
- Extensive litigation between the shareholders. “However, the petitioner should not be penalized for litigating and, in any event, the litigation will be concluded when the petitioner is paid,” he says.
- Uncertainty about AriZona’s S corp status. “However, the court concluded that S corp status did not add to the company’s value,” Matthews observes.
For more on Matthews’ comments and a link to the AriZona case (including a case digest), see the BVWire (free registration required).
BVWire attended the excellent AICPA-FVS conference in New Orleans. Here are just a few of the many interesting pieces of information we picked up.
Does the size premium still exist? Academics and investment pros say the size premium has vanished based on research that shows it’s been declining over time. But BV experts claim it’s alive and well (e.g., see Pratt and Grabowski’s Cost of Capital, 5th Edition).
What’s the most likely IRS audit trigger for estate/gift tax returns? It’s the presence of DLOM or DLOC in a valuation, according to a poll of attendees in a session on dealing with the IRS.
Consolidation is “running rampant” in the auto dealer industry in the wake of Warren Buffett’s purchase of Van Tuhl, the largest privately owned U.S. auto dealership group.
The IRS still says “no” to tax affecting in valuations, and the agency is looking for a test case to bring to court. But, according to a great deal of research, shareholder taxes definitely affect value.
At the conference, the AICPA honored four individuals: Hubert Klein (EisnerAmper LLP) as the Forensic and Litigation Services Volunteer of the Year; Jason MacMorran (P&N Consulting), Business Valuation Volunteer of the Year; Sheri Schultz (Fiske & Co.), ABV Champion of the Year; and Elizabeth Woodward (Dean Dorton Allen Ford), CFF Champion of the Year.
For more takeaways from the AICPA FVS conference, see BVWire (free registration required).
Looking for a source for the latest transaction multiples being paid for U.K .private companies? A new guide, BVB Insights: Data and Analysis on UK Private Company Multiples, 2014 Edition, has this information in over 50 industry categories.
Key insights: The highest multiples paid were in the telecommunications, healthcare, and IT sectors, according to the guide. The consumer discretionary and consumer staples sectors also show relatively high multiples paid. Some of the key drivers of multiples in this space include: private equity firms acquiring strong branded companies, North American buyers in the private education space, and consolidation in retail automotive by the U.K.’s three largest players. The lowest multiples were paid in the materials sectors (mainly U.K. manufacturers), “largely due to the relatively low margins in this sector (5.6%), being the lowest amongst the 11 industry categories,” says the guide.
The guide, compiled by Business Valuation Benchmarks Ltd., is available from BVR. For details and how to order, go to BVWire, (free registration required).