December 7, 2011 | Issue #111-1  

Is the BV profession heading for ‘trifurcation’?

That was the consensus among panelists at the most recent AICPA National BV Conference in Las Vegas. One of the major trends heading into 2012 and the years to come is the “trifurcation” of the BV profession among three tracks: litigation, fair value for financial reporting, and “traditional” practices (ESOP, estate and gift and other tax work, business transfers, etc.). Appraisers will also increasingly specialize in particular industries, such as healthcare, oil and gas, telecommunications, and other “niche” sectors. Keeping up with the advancing sophistication of valuation techniques and even general technology will also be a challenge. “We’ve tried to appoint a few ‘champions’ in cost of capital, marketability discounts, and other areas,” including IT, commented panelist Ron Seigneur (Seigneur Gustafson). These “firm champions” then make internal presentations to help their colleagues keep up to speed on a particular topic. “I used to think I was proficient in technology—not anymore,” Seigneur said. Now his firm’s “technology champion” might research and report back on whether a tablet, iPad, or some other device will carry true cost-benefit efficiencies for the firm.

What issue has had the greatest impact on your professional practice? Since 2006, we’ve polled our readers on this important end-of-the-year question. What tops your list of concerns this year: IRS oversight, FASB standards, the disruption of global economies, or the increasing specialization of the BV profession? Please take a few moments to participate in the current online survey of top BV trends in 2011. We’ll publish the results up and through the close of the year.

Judicial activism is doing damage to BV, says attorney Hood

In an “open letter to the judiciary concerning the damage that it is doing to business valuation,” attorney Paul Hood has some “acerbic words” for the judges that preside over tax disputes, with its implicit assumptions about the work of some BV appraisers. The damage “has to stop now,” Hood says, primarily by increasing Daubert exclusions:

“The U.S. Supreme Court made you the ‘gatekeepers’ of expert evidence,” Hoods tells the tax bench. This does not mean that but for “your hallowed robes, [you should] also be passing through the same gate.” Judges should stop taking on “the cloak of superior appraiser, divining between theories and conclusions . . . to reach your own conclusions, usually cherry-picked from bits and pieces of the work [by] opposing experts,” which sometimes results in “highly nonsensical, Frankensteinesque” opinions, Hood writes, citing the Gallagher decision as one recent example.

“You are the gatekeepers,” he says. “Then keep the gate.”  Instead of admitting what the judge suspects is a biased report (and then taking out the resulting “resentment” on the appraiser in the opinion), he or she should “simply refuse the evidence and testimony under Daubert.” The alleged biases in the BV profession would soon “disappear,” Hood promises. Otherwise, BV experts will continue to play to the court’s “out of tune” appraisal practice rather than compose their own “melodic” (and reliable) versions. Read the rest of Hood’s outspoken observations—including how the Tax Court has come to resemble the “Flat Earth Society” on tax-affecting, and how it should “resist simplicity” on other issues, such as embedded capital gains discounts—by clicking here.

A 9-point checklist for selecting BV methods, by IBA’s Curtiss

“Based on the following facts about a prospective engagement,” says Rand Curtiss (Loveman Curtiss Inc.) in last week’s post to the Institute of Business Appraisers’ (IBA) blog, “what valuation approaches and methods would you use or rule out?”

1. This is a tax-related valuation as of a given date.
2. A minority equity interest is to be valued.
3. The business is a going concern.
4. Its industry is disclosed.
5. There have been no prior transactions in its stock.
6. There is no buy-sell agreement.
7. The company has sales of less than $10 million.
8. It has a small amount of debt (bank loan) with a repayment schedule.
9. There are no atypical facts or circumstances.

“What we are doing is similar to doctors’ differential diagnosis,” Curtiss writes. Based on facts (symptoms) presented by the patient (subject company) and answers to targeted follow-up questions, BV experts can deduce their valuation approaches and conclusions. Read Curtiss’ entire BV “diagnosis” of this particular case—including how he rules out the market- and asset-based methods and applies the income approach, with certain key assumptions—at the “Go-IBA” blog. Applied to future cases, Curtiss’ checklist may help appraisers “confidently to quote a fee and turnaround schedule and document our reasoning in our report.”

Shareholders now sue in 8 out of every 10 deals

Law professors met last month with members of the country’s premier business court—the Delaware Court of Chancery—at Columbia University Law School in New York City to reveal how their research may be impacting the court’s decisions on statutory appraisals, dissenting shareholder rights, directors’ fiduciary duties, and more. In particular, a study by Prof. Steven Davidoff (Ohio State Univ.) shows that a decade ago, only one in 10 public company deals resulted in litigation. In 2010, the litigation rate among deals spiked to 84%, according a summary of the conference by Corporate Counsel.

“It is really spectacular growth,” said attorney William Savitt, a partner at event co-sponsor Wachtell Lipton Rosen & Katz. “It shows no sign of slowing.” However, the Delaware Chancery court is not attracting its proportionate share of this rising tide, said Prof. Bernard Black (Northwestern Univ.), who presented recent data to support this finding. To explain this trend, Prof. Black could only guess that the court’s recent efforts to discourage “bad cases” through “anti-plaintiff lawyer rhetoric” and fee cuts may be prompting attorneys to file even good cases in other state courts. That may also reduce the court’s high-profile reputation and its quasi-regulatory role, according to another commentator at the conference.

To keep up with important valuation precedent from this preeminent corporate tribunal, tune in tomorrow, Thursday, Dec. 8, to Delaware Chancery Roundtable: Views from the Bench, Council & Witness Stand. In this special two-hour webinar, Neil Beaton (Grant Thornton) and Kevin R. Shannon (Potter Anderson & Corroon) will ask Vice Chancellor Donald F. Parsons Jr. what the Chancery court expects from financial experts, their valuation methods, conclusions, and credibility.

SEC releases ‘Analysis of IFRS in Practice’

Last week the Securities and Exchange Commission (SEC) released its 65-page analysis of IFRS in action, Work Plan for the Consideration of Incorporating International Financial Reporting Standards [IFRS] into the Financial Reporting System for U.S. Issuers. Intended to assist the staff of the Office of the Chief Accountant of the SEC to consider “whether, when, and how the current financial reporting system for U.S. issuers should be transitioned to a system incorporating . . . IFRS,” the new work plan analyzed the most recent annual consolidated financial statements from 183 companies that purported to comply with the international standards.

“First, across topical areas, the transparency and clarity of the financial statements could be enhanced,” the executive summary says. For example, some companies failed to provide accounting policy disclosures in certain relevant areas, while others provided insufficient disclosures or inconstant terms. “Second, diversity in the application of IFRS presented challenges to the comparability of financial statements across countries and industries,” the summary says. Diversity sometimes arose from the standards themselves; in other cases, diversity resulted from an apparent non-compliance with IFRS.

In a second just-released report, A Comparison of U.S. GAAP and IFRS, the SEC staff focuses on six particular areas, including an assessment of “whether there is sufficient development and application of IFRS for the U.S. domestic reporting system.”

FAF doesn’t fully endorse ‘condorsement.’ In related news, the board of trustees of the Financial Accounting Foundation (FAF), FASB’s parent company, just published its letter to the SEC outlining its preferred path for IFRS incorporation. “The Trustees support the incorporation of IFRS into U.S. GAAP as the appropriate path forward for the continued development of high-quality, investor-focused, international financial reporting standards,” the letter says. At the same time, the trustees recommended several modifications to the SEC staff’s current “condorsement” approach to IFRS incorporation, based on the assumption “that, over time, international standards will become the foundation of U.S. GAAP.”

Case that allowed ‘non-prevalent’ BV method to pass Daubert

In response to our recent item on DLOM methods and the potential challenge of Daubert, Jim Hitchner (Financial Valuation Advisors) offers that he did not purport to say whether the current DLOM models would fail under Daubert. “That is for a judge to decide,” Hitchner writes. However, “I did say something on the order that there was a court case out there that allowed something [under the Daubert standard] that was not prevalent in the valuation profession.”

The case: Alamar Ranch LLC. v. City of Boise, 2010 WL 5055917 (D.Idaho), in which the federal district court assessed the Butler Pinkerton Calculator™--Total Risk Calculator (BPC) under Daubert and concluded that the standard is inherently flexible. Peer-reviewed literature “may or may not be pertinent in assessing reliability, depending on the nature of the issue, the expert’s particular expertise, and the subject of his testimony,” the court said, citing 9th Circuit precedent. “Peer-reviewed literature may not be available for a number of reasons,” it added, “including that the issue may be too new, or lack sufficiently wide interest.” Quoting from the same precedent, the court also found that when the expert’s knowledge has a “valid connection” to the inquiry and a “reliable basis in the knowledge and experience of the relevant discipline,” the opinion is admissible—as was expert Pete Butler’s (Valtrend), which relied in part on the BPC. The complete case digest of Alamar Ranch (the source of quoted materials) appeared in the December 2010 Business Valuation Update; the federal court’s opinion is posted at BVLaw.

How experts can avoid the ‘gotcha’ game of e-discovery

The proliferation of electronic information and social media has turned the pre-trial process of discovery into a “gotcha game,” according to attorneys with the Gibbons e-discovery task force, who recently hosted the 5th Annual Gibbons E-Discovery conference in Manhattan. The 2010 Pension Committee decision in New York took an aggressive approach to “litigation holds”—i.e., a party's failure to issue a written legal hold notice constitutes gross negligence per se, the court said, supporting an inference that the party has destroyed relevant evidence to the prejudice of its opponent, and justifying sanctions unless the party rebuts the presumption. Subsequent 2011 decisions have softened the strict rule somewhat, says a Gibbon’s write-up of the conference, but the discovery process in the Information Age continues to be a rabbit-hole matrix of litigation protocols and the preservation and production of e-evidence, including spoliation issues, sanctions, waiver of privilege, and—most importantly for economic damages experts—how to request and find, amidst the myriad of data produced, the critical financial information that they need to build their valuation models and conclusions.

To find out how: BVR’s Online Symposium on Litigation and Economic Damages continues on Tuesday Dec. 13 with Getting the Information You Need: A Guide to Electronic Discovery, featuring attorneys Richard Gelb and Daniel Gelb (both Gelb and Gelb). 

Business of patent litigation is booming

Good news for IP litigation experts: business is booming at the top IP law firms, according to the 2011 Patent Litigation Survey by Corporate Counsel (CC). For example, the annual survey, which ranks law firms according to how many federal district court patent cases they handled during the most recent year, reveals that industry leader Fish & Richardson (which took top honors for the eighth year in a row) handled 128 cases in 2010, compared to 99 last year—a 29% increase. Similarly, the number-two ranked firm saw its caseload shoot up almost 47%. Defense against “patent trolls” continues to fuel the boom, along with cases concerning industry “giants” such as Apple, Oracle, and Microsoft. “So the business of patent litigation appears to be strong,” says the CC surveyors, “to the relief if IP lawyers [and their experts] and the dismay of litigation-fatigued general counsel.”

Warner: don’t let your 2011 BV milestones turn into millstones

Congratulations to ASA’s intrepid and insightful BV editor, Rick Warner, who just passed a birthday milestone (29, of course). His most recent E-Letter used the occasion to offer ASA members and BV analysts guidance in keeping their professional (and personal) resolutions on track:

  • “Milestones tell us distance, not direction,” Warner says. Milestones don’t even indicate the final destination. Think mile markers along the highway, which look the same no matter which Interstate you take. Take a turn onto the wrong highway—and you may go miles, checking off the markers, before you realize your mistaken direction.
  • “Milestones become irrelevant when we need to change direction,” Warner writes. Speed bumps and detours are bound to happen, and when they do, they may indicate the need to take a turn or even a different road toward the ultimate goal. Then the only milestones of any import are the ones on the new track.
  • The value of milestones is fleeting—and fickle.  “If we have set goals that for any number of reasons are no longer valid, [then the] milestones that directed us to those now invalid goals can become millstones,” Warner advises. Enjoy the “fleeting success” of the milestones that you do achieve and then “move on.”  Milestones that appear in your “rear view mirror only have value in telling you where you’re coming from—not where you’re going,” he adds. Take a look at your current goals and objectives to make sure they are correct “for you, your life, and your business.”

Crain updates paper on the size effect

Mike Crain (Financial Valuation Group) has recently updated his paper, "A Literature Review of the Size Effect," available at SSRN (Social Science Research Network). Crain’s paper is among the top 5% of SSRN downloads, and describes the empirical research on the size effect in stock returns.

One of the last CPE opportunities of the year

BVR’s 2011 Online Symposium on Healthcare Valuation concludes on Friday, Dec. 9 with Accountable Care Organizations: What Are They and What Do You Need to Value? Featuring Symposium curator Mark Dietrich and industry expert Carol Carden (PYA), this session will address one of the newest but perhaps least-defined products of recent federal healthcare reform, enabling appraisers to get on the “cutting edge” of ACO definition and valuation.


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