What Should the Valuators Look for in Information Provided
A recent case1 in federal district court in New Mexico dealt with two motions to exclude a witness under the Daubert rules because the financial statements provided to the BV expert were not prepared under GAAP and were otherwise potentially inaccurate, such as relying on unaudited financial statements.
In the second motion, the defendants argued that the opinion of the plaintiff’s expert, Jennings, a CPA and ABV, was not reliable because information he relied on was not prepared in accordance with GAAP and was not reliable. Jennings testified at his deposition that he did not prepare any of the underlying documents he used to determine his opinions and he did not know whether they were prepared under GAAP.
The defendants further argued that Jennings did not perform any forensic or financial analysis on the materials he used to prepare his reports. The defendants claimed he did not make any effort to determine whether the materials he used were accurate.
In rebuttal, Jennings noted that the statements were from an accounting system and provided a reasonable factual basis for his opinions and "are of the same nature as documents typically used in his industry to conduct a business valuation analysis like he performed in this matter." Jennings also testified that there was no need for a forensic examination since there was no indication that the documents were inaccurate.
The court, in denying the second strike motion, explained that the defendants cited no evidence that required BV experts to use only information that was prepared in accordance with GAAP. This was another issue that might be attacked on cross-examination. “Jennings is not obligated to conduct independent research or verify the accuracy of the information provided to him.”
While it was good to see a court, especially a U.S. District Court, affirm this position, it was also important to note paragraph 30 of the AICPA Valuation Standards, which reads as follows: “The valuation analyst should read and evaluate the information to determine that it is reasonable for the purposes of the engagement.”2 In the White Buffalo case, there was no indication of any problems with the information the expert provided and used. What if the expert were skeptical of the information provided, however? Can you wash that away by simply adding a risk factor to the cost of capital or using, for example, a revenue method under the market approach to resolve skepticism of gross and net income margins? It is my belief that you cannot. I believe you either need to perform an appropriate forensic examination or, in most cases, withdraw from the engagement. I would like to hear from our readers on this point.
1. White Buffalo Env't, Inc. v. Hungry Horse, LLC, 2023 U.S. Dist. LEXIS 48355 (March 22, 2023)
2. This also applies to the NACVA standards, and there are similar provisions in USPAP.