Jeffrey M. Risius (Stout Risius Ross Inc.) was the defense expert in the recently profiled case Fish v. GreatBanc (prior coverage here). As such, he was asked to assess whether the ESOP’s financial advisor, Duff & Phelps, had followed due process and performed defensible valuation analyses for the 2003 transaction. The court credited Risius’ “credible and persuasive” testimony in concluding there was no overpayment.
Risius offers a few takeaways from working on this and similar cases:
- In ESOP transactions, process and proper documentation are critical. Both sides of the transaction should retain independent financial and valuation advisors, as they did in Fish.
- The standard for any review is “what was known or knowable as of the transaction date.” This means performing robust research of the economic, industry, and company conditions prevailing at that time.
The company in Fish was a leader in the scrapbooking industry. In 2003, the rise of social media and technological advances such as the iPhone were unforeseeable, but they ultimately led to the industry’s collapse. By analyzing valuation multiples related to comparable companies, Risius was able to show the company’s decline was not a function of the transaction but mirrored the industry’s decline.
- A fair market value determination has to connect to how the market actually works. Any deviation from management’s projections begs for a solid explanation.
In Fish, the court discredited the opposing expert’s DCF analyses for basing projections on downside feasibility models and a statistical modeling technique (ARIMA) that, by all accounts, no financial expert used for valuation purposes.
- Go “into the inner workings of company projections” and work with management to adjust for company-specific risk factors, as D&P did, rather than impose an arbitrary risk premium. Also, beware of double dipping: making downward adjustments to management’s projections and also applying a company-specific risk premium to the rate of return.
- In an ESOP valuation, you cannot simply deduct the repurchase obligation from the value of the company, especially if the company is redeeming the ESOP participants’ shares.
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