Business Valuation Review Volume 35: Issue 4

Hello Everyone,

I hope that this issue finds you doing well.

This issue contains the second Technical Paper from the Business Valuation Committee: “Reinvestment Considerations in Terminal Value Estimates: Capital Expenditures and Depreciation Levels That Result in Appropriate Reinvestment Rates.” If you have any thoughts to share regarding it, please feel free to contact me or the BV Committee.

Professor Robert Brooks of the University of Alabama has written an article describing his option-based DLOM model. This model is more general than others and allows inputs for not only volatility and maturity, but also investor skill and hedging availability. The

When using a valuation method that incorporates a terminal period net cash flow estimate, the valuation analyst will need to estimate a stabilized level of net cash flow. Two primary components of this net cash flow estimate are normalized depreciation expense and normalized capital expenditures. This technical paper will discuss research that has focused on (1) the long-term relationship between depreciation expense and capital expenditures and (2) the variables that influence this relationship. This paper will also highlight the various factors that a valuation analyst may consider when estimating a normalized level of depreciation expense and a normalized level of capital expenditures in a single-period net cash flow estimate.

This study asks which valuation approaches and analyses are currently being used as the foundation for fairness opinions in stock-for-stock mergers involving US companies. An examination of the SEC's EDGAR database for the years 2009 through 2014 identified 146 proxy statements for stock-for-stock mergers containing 290 fairness opinions and descriptions of the approaches, methods, and analyses employed. We found that most opinions employed more than one approach, and that opinion providers (primarily investment bankers) determined the fairness of stock-for-stock mergers by considering relative analyses as well as customary valuation approaches. More than 90% of the fairness opinions utilized the two traditional ways to quantify going-concern value: the income and market approaches. In addition, more than 90% used one or more relative analyses. Relative analyses, which assess the relative fairness of the exchange ratios in a stock-for-stock merger, are applicable only when target shareholders continue to own an equity interest in the surviving company. Inputs used in the income approach and multiples used in the market approach were reviewed. Also, fees charged for public fairness opinions were examined.

A general option-based approach to estimating the discount for lack of marketability is offered. It is general enough to capture maturity, volatility, hedging availability, and investor skill, as well as other important factors. The model is shown to contain several option-based models as special cases. The model also contains two weighting variables that provide valuation professionals much needed flexibility in addressing the unique challenges of each nonmarketable valuation assignment. Selected prior empirical results are reinterpreted with this approach.

Editor's Column

AMERICAN SOCIETY OF APPRAISERS: Business Valuation Committee Special Topics Paper #2 Reinvestment Considerations in Terminal Value Estimates: Capital Expenditures and Depreciation Levels That Result in Appropriate Reinvestment Rates ^a

Stock-for-Stock Mergers: An Empirical Study of Fairness Determinations in Fairness Opinions

A General Option Valuation Approach to Discount for Lack of Marketability

Book Review

Overview

From the Chair

Fair Value Quality Initiative - CEIV^TM Credential

Volume 35, No. 4 — Complete Issue

From the Editor

Customer Concentration: Good, Bad, or Ugly?

From the Chair

Delaware Valuation Decisions, 2021 to 2024

Volume 44, No. 1 — Complete Issue