Presentation to The New England Graduate Accounting Studies Conference June 18, 2014 Roger Winsby, President Axiom Valuation Solutions

Transcription

1 Current Developments in Business Valuation Presentation to The New England Graduate Accounting Studies Conference June 18, 2014 Roger Winsby, President Axiom Valuation Solutions

2 Roger M. Winsby President and Co founder Roger is president of the company, and is the principal analyst for the company's business valuation services, including certified business valuation reports, certified valuation reports for non operating LLCs and FLPs, and business value estimate reports. Dr. Stan Feldman is the chief valuation officer for the company. Roger is a co author of What Every Business Owner Should Know About Valuing Their Business, McGraw Hill, 2002 Axiom Valuation Solutions Rwinsby@axiomvaluation.com x203 Roger is a Certified Machinery and Equipment Appraiser through the National Equipment and Business Builders Institute, and is a member of the Society of Business Analysts. Roger has over twenty five years of management experience in small and mid sized company settings. From 1985 to 1994, he served as Group Vice President for U.S. Sales, Marketing, and Consulting of DRI/Standard & Poor s, the leading U.S. economic analysis and industry forecasting firm. Roger received a B.A. in Economics, summa cum laude, from Claremont McKenna College. 2

3 Dr. Stanley J Feldman Chairman and Co founder Stan is the chief valuation officer for the company, and has overall responsibility for the company's signed valuation reports and for the company's valuation analysis systems. He directly manages the company's valuations for financial reporting and fair value projects. Axiom Valuation Solutions stan@axiomvaluation.com x204 Stan has consulting and academic experience in the valuation of privately held and publicly traded firms, along with extensive real world experience. He is an expert in the valuation of complex financial securities, including thinly traded equity and fixed income instruments, and public and privately held businesses. He helped to draft FAS 157(now Topic 820), the fair value standard, as a member of the Financial Accounting Standards Board's (FASB) Valuation Resources Group, an external advisory committee on valuation issues. Stan received a B.A. in Economics from the City University of New York, Hunter College, a M.A. in Economics from the New School for Social Research, and a Ph.D. in Economics from New York University. 3

4 About Axiom Valuation Solutions Axiom Valuation Solutions is a nationally recognized business and financial security valuation firm. We have conducted valuation assignments for clients throughout the U.S., Europe, Asia, and Latin America. We are one of only a few firms that provide only valuation services across all industries nationwide, for fixed prices and on a fixed time frame. Our Co founder and Chairman, Dr. Stanley Jay Feldman, was a member of FASB s Valuation Resource Group, an advisory group to FASB, and has published multiple books and articles on valuation. Dr. Feldman taught valuation and corporate finance for twenty years as an Associate Professor of Finance at Bentley University. For more information, please visit Headquarters: 201 Edgewater Drive, Suite 255, Wakefield, MA, Representatives: Los Angeles, CA Orange County, CA Scottsdale, Arizona Bonn, Germany 4

5 Disclaimer This material is offered for educational purposes with the understanding that Axiom Valuation Solutions is not rendering legal, accounting or any other professional service through presentation of this material. The information presented has been obtained with the greatest of care from sources believed to be reliable, but is not guaranteed to be complete, accurate or timely. Axiom Valuation Solutions expressly disclaims any liability, including incidental or consequential damages, arising from the use of this material or any errors or omissions that may be contained in it. 5

6 Current Developments in Business Valuation REVIEW THE BASICS

7 Reasons to Value a Business 1. IRS Purposes a. Gifting stock to related parties or trusts b. Estate filing of owner c. Charitable donation of stock d. ESOP annual requirement (IRS/DOL) e. Conversion from C to S f. Sale of stock to related parties g. Issuing stock options IRC 409A 7

8 Reasons to Value a Business (cont.) 2. Owner Exit Planning a. Sale of business b. Sale of minority or control interest to investor c. Co owner Buy in or Buy out d. Phantom Stock Plan or Stock Appreciation Plan e. Issuing Stock Grants 8

9 Reasons to Value a Business (cont.) 3. Other a. Owner Litigation/Arbitration 1) Co owner Disputes 2) Owner Divorce 3) Business Disputes b. Business Financing 1) SBA loan guarantees 2) Collateral for loan 9

10 Business Owner Transition Tidal Wave 1. Millions of Small Businesses created over the last 50 years a. Privately held entities b. Typically do not have public company comparables c. Two basic types: 1) Operating businesses 2) Asset holding entities 10

11 Business Owner Transition Tidal Wave (cont.) 2. What s the current outlook? a. Recessions delayed transition for many b. Best of times, worst of times 1) Best of times: Private equity firms have record amounts of money to invest Corporate buyers looking for growth 11

12 Business Owner Transition Tidal Wave (cont.) 2) Worst of times Many successful incomegenerating firms are not sellable Liquidity does not extend down to smaller firms Internal buyers do not have resources to buy their company 12

13 Valuing Businesses for IRS Purposes 1. Guideline for Valuations: IRS Rev Ruling a. What is the interest being valued? b.what is the valuation date? c. Fair market value standard d.factors to consider 13

14 What is the Interest Being Valued? 1. Fundamental difference between the gifting standard and the estate standard a. Estate: Combining the decedent s interests into a block b. Gifting: Value interests based on their standalone characteristics 14

15 What is the Valuation Date? 1. Estate Administration has unique date standard a. Date of Death b.alternate Date: 6 months after c. Have to value all assets at both dates if using alternate date 15

16 What is the Valuation Date? 1. Valuation analysis can consider the impact of the death on the business or entity a. Payment of life insurance death benefit to company b. Impact on client relationships c. Impact on business longetivity 16

17 Fair Market Value 1. Willing buyer and willing seller really? 2. Informed 3. Impact of deal terms on value 4. What about strategic buyers? 17

18 Question 1. What is the right interest rate a seller should charge a buyer for seller financing of the transaction price so the seller does not lose value? a. Minimum IRS applicable rate b. Prime + 1% c. Prime + 2% d. Cost of capital for the acquired firm 18

19 Financial Statement Review 1. Rev Ruling Instruction a. Detailed profit and loss statements should be obtained and considered for a representative period immediately prior to the required date of appraisal, preferably five or more years. 2. The Last Five Years! 19

20 Factors to Consider from The financial condition of the business. The earning capacity of the company. Whether or not the enterprise has goodwill or other intangible value. The market price of stocks of corporations engaged in the same or a similar line of business having their stocks actively traded in a free and open market, either on an exchange or over thecounter. (IRS Rev Ruling 59 60) 20

21 Adjustments for Valuation Purposes 1. Benchmarking to Industry Ratios 2. Adjustments a. Owner Compensation b. Family Member Compensation c. Rent from Related Entities d. Leasing Equipment from Related Entities e. Other Owner Discretionary Expenses 21

22 59 60 Standards Applied to Small Businesses Financials are often not transparent Income tax minimization is often the primarily objective of financial management For many businesses, goodwill is personal not enterprise There are rarely appropriate public company comparables Many successful businesses are not sellable 22

23 Financial Statement Review 1. Restatements a. Cash vs accrual b.tax vs Book for depreciation and amortization c. Non operating assets and liabilities d.excess working capital e. Related company transactions 23

24 Current Developments in Business Valuation VALUATIONS OF BUSINESSES

25 Current Developments 1. Trends in Valuation Cases a. Importance of Facts and Circumstances b. Use of Financial Modeling to Quantify Discounts and Premiums c. Use of Fair Value in Divorce & Shareholder Dissent d. Increasing use of Personal Goodwill 25

26 Importance of Facts and Circumstances 1. A determination of fair market value, being a question of fact, will depend upon the circumstances in each case. No formula can be devised that will be generally applicable to the multitude of different valuation issues arising in estate and gift tax cases. (IRS Revenue Ruling 59 60) 26

27 Importance of Facts and Circumstances 1. A sound valuation will be based upon all the relevant facts, but the elements of common sense, informed judgment and reasonableness must enter into the process of weighing those facts and determining their aggregate significance. (IRS Revenue Ruling 59 60) 27

28 Valuation Discounts 1. Calculating Discounts for an Operating Business History and Current Developments a. Lack of Control b. Lack of Liquidity c. Lack of Marketability 28

29 Valuation Premium 1. Calculating a Control Premium for an Operating Business a. Mergerstat b.inverse of Minority Discount c. Call Option d.other Methods 29

30 Fair Value versus Fair Market Value 1. Precedence: a. Stockholder or Buy Sell Agreement b. State Law/Court Decisions 2. Shorthand: a. Fair Value No Discounts for Lack of Control and Lack of Marketability b. FMV Discounts can be applied 30

31 Personal Goodwill 1. Generally relevant only for valuing C corporations being sold to reduce double taxation 2. Importance documenting facts and circumstances surrounding owner(s) a. Have clients followed owner(s) through multiple firms? b. Non compete agreement is a necessary element 31

32 Current Developments in Business Valuation VALUATIONS OF ASSET HOLDING ENTITIES

33 Current Developments 1. Trends in Valuation Cases for FLPs and LLCs a. IRS Challenges to Business Purpose b. Proposals to Eliminate Discounts c. Importance of Facts and Circumstances d. Use of Empirical Data to Quantify Discounts e. Should Controlling Interests Get a Control Premium 33

34 Valuation Discounts for Asset Holding Entities 1. Calculations for: a. Minority Discount 1) Discounts Applied by Asset Class: Real Estate by Type, Security Types, Other Assets b. Lack of Liquidity/Marketability 34

35 Current Developments in Business Valuation CASE STUDIES

36 Operating Businesses Case Studies 1. Value of medical practice after a physician co owner dies after being arrested for sexual misconduct 2. Value of company after co owner with large client relationship dies 3. Value of companies with captive real estate and captive equipment leasing companies 4. Value of auto dealership required to invest in new dealership facility 36

37 Operating Businesses Case Studies 1. Value of excess inventory remarketing company with one client 2. Value of notes due to company co founders (100% financed buy out by management) 3. Value of 25 year control restriction on control owner 37

38 Special Cases by Industry 1. Construction Companies a. Great income business, bad wealth creator b. Have to keep retained earnings in business c. Cannot get it out bonding companies and banks d. No buyers Personal Goodwill 38

39 Special Cases by Industry 1. Machine Tool Companies a. Great income business, bad wealth creator b. Have to keep buying machines c. Machinery is critical but specialized knowledge is more critical d. No buyers Personal Goodwill 39

40 Special Cases by Industry 1. Personal Services medical, dental, psychology, legal, financial a. No buyers unless there is a recurring customer base and a new business generating system that does not rely on key person 40

41 Asset Holding Entities Case Studies 1. Real Estate Entity with Shared Control One GP Dies 2. Real Estate C Corporation Owner Dies 3. Real Estate Corporation Converts from C to S then co owner dies before 10 years 4. Real Estate Entity with Small Apartment Buildings with substantial repair/renovation needs 5. Fraudulent Assets 6. Fractional Interests Don t use the 15% rule 41

42 Summary 1. Small businesses often have complicated and non transparent financials 2. Valuing small businesses: a. Importance of facts and circumstances b. Use of financial models and empirical data to support assumptions and adjustments Thank you for being such an attentive audience! 42