Tread Carefully Using this Market-Approach In valuation theory, the market-based approach, being one of the three main valuation approaches, can rely on the guideline private comparable transactions method, suggesting that the results obtained in that way should be treated equally with other valuation approaches and methods. However, the disadvantages of the guideline private comparable transactions method are so consequential that its reliability should be strongly questioned, and the results based on it should be taken with significant caution. This article justifies this opinion by stating the most important weaknesses of the mentioned method. In valuation theory, the market-based approach, being…
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Understanding the Fundamentals of the Industry The purpose of this article is to give other experts facing the challenge of completing a valuation of a Bitcoin mining facility some of the fundamental characteristics needed to understand the operations and assign value. A few months back I received a call from a potential client looking for a valuation of bitcoin mining company for purposes of a prenuptial agreement. I excitedly said “yes” I would love the engagement, very candidly telling the client that I had not valued one in the past but that I was part of an amazing organization, the…
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A Minimalist’s Suggestion on How to Lose the Boilerplate What level of detail should valuation analysts include in a detailed report? In this article, the author shares six practices he follows to answer the above question. You probably remember that college professor who said they graded term papers by throwing them down the stairs and giving the ones the farthest down the highest grade. This is how I feel many valuation reports are written. Recently, I was asked by an attorney on a malpractice case to review a valuation report. It looked like a reasonable, professionally done valuation report. But…
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New Year, Neutrality It is incumbent upon those who attempt to become or remain as “thought leaders” to sometimes put some thought into what is written. This said, this 13th article of the Unimpeachable Neutrality Series will cover some of the basics of what exactly “unimpeachable neutrality” is and how it is just as valuable and necessary in 2023. I received a phone call from a distressed member the other day. I could tell they were younger, maybe late 20s. They described a situation that they could not define but I was very familiar with. The member described being in…
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To Turn Worthy Dreams into Valuable Legacies This article features an interview where, Nataliya Kalava, CVA, ABV, MAFF, of American Valuations, interviewed Brian Stephens, MBA, CMAP, CVA, CBI, CEPA, of Legacy Business Sales and Acquisitions. Brian’s mission is to inspire and empower great people to turn worthy dreams into valuable legacies. During this conversation, the authors of this article discuss the market sentiment from the perspective of sellers and buyers. Brian shares insights about how sellers think about the value of their business. The authors also share their views on what risk factors and value drivers business brokers consider when…
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Of a Real Estate Centered Entity As business valuation analysts, how many of us have ever agreed to value an equity interest in a gas station, or a hotel, or some other business that operates with real estate as an operating asset? For me, that answer is “frequently.” Yet, over the years my view of how to undertake this type of assignment has changed. These types of businesses deserve more care and understanding than a simple net cash flow divided by some cap rate. As business valuation analysts, how many of us have ever agreed to value an equity interest…
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(Part III of III) Part one of this three-part series presented the description of Clary Hood, Inc. (“CHI”) and the description of the tax litigation concluded in the Hood decision. Part two of this series summarized the Tax Court’s analysis and conclusions regarding the reasonableness of executive compensation issues in this matter. This third and final discussion summarizes the Tax Court’s analysis and conclusions regarding the application of the Internal Revenue Code Section 6662 penalties in this matter. Introduction The U.S. Tax Court decision in Clary Hood, Inc. v. Commissioner[1] provides important practical guidance to private companies and to private…
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(Part II of III) Part one of this three-part series summarized the facts regarding Clary Hood, Inc. (“CHI”) and the basis for the litigation. This second article focuses on the Tax Court’s analysis of the reasonableness of compensation issue in the Hood decision. Introduction The U.S. Tax Court decision in Clary Hood, Inc. v. Commissioner[1] provides important practical guidance to private companies and to private company owners—and to their legal, accounting, and valuation analysts—regarding the reasonableness of executive/shareholder compensation income tax deductions. In this decision, the Tax Court provides a fulsome discussion of its application of the so-called multifactor approach…
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(Part I of III) This article about excess compensation is comprised of three-parts. Part one summarizes the facts regarding Clary Hood, Inc. v. Commissioner and the U.S. Tax Court’s holding. Part two of this series describes the Tax Court’s analysis and conclusions regarding the reasonableness of compensation issues. Part three describes the Tax Court’s analysis and conclusions regarding Section 6662 penalty issues. Introduction There are many reasons why valuation analysts and other professional advisers are asked to analyze—and opine on—the reasonableness of the amount of compensation paid to the employees of a private company or institution. Assessing the reasonableness of…
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It is all Based on Your Perspective The purchase price of a transaction can look vastly different. Therefore, when considering the prices of various transactions, it is important to know how those prices have been calculated so that one has a consistent perspective and is not comparing apples to oranges This article illustrates the various perspectives that may emerge in connection with a purchase price. With football playoff season on the horizon, I cannot help but think about September 24, 2013—a night that many football fans will not soon forget. The Seattle Seahawks were playing the Green Bay Packers on…
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VPS StraightTalk Webinar, October 20, 2022 This summer and fall 2022, within the business valuation profession, one of the most contentious issues has been “which cost of capital should business valuation professionals use when valuing a small business?” First, Dr. Damodaran advocated the implied equity risk premium with the capital asset pricing model without adding a size premium or company specific risk. He adjusts for other risk factors (size and company specific risks) by adjusting the forecasted cash flows. Next, James Hitchner, CPA, ABV, CFF, responded to Dr. Damodaran’s criticism. Shortly thereafter, Eric Nath, founder of Eri Nath & Associates,…
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Using Weights and Factors to Quantify Risk This is a condensation of the author’s article, originally published in The Value Examiner, July/August 2022. The author proposes an alternative way of calculating the company specific risk premium. This is a condensation of my article originally published in The Value Examiner, July/August 2022. Most of us who value businesses are not valuing businesses in the middle market or the size of businesses that the major writers and instructors on business valuation are valuing. We generally value businesses with revenues under $3,000,000, if not $1,000,000. Not only is there a substantial difference between…
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How the PTE Tax Can Impact the Valuation of Pass-Through Entities This paper explains how the PTE tax in Massachusetts and several other states affects the valuation of a business and how business owners can account for this tax to avoid double taxation. Introduction Taxes can have a significant impact on the value of a business. Pass-through entities such as S-Corporations and partnerships generally do not pay any taxes since the income is passed through to the individual shareholder or partner. Taxes are then paid on their individual income tax returns. But what if I said that Massachusetts pass-through entities…
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On Business Valuation The effects of inflation on consumers’ spending and psyche are well-known. The difficulties each causes in day-to-day life are often discussed. Inflation has affected everything from the cost of transportation to the cost of food and housing. What is less discussed, however, is how the current inflationary period is affecting small business owners and their companies. In this article the author shares his impression. U.S. Inflation Calculated annually, the U.S. Inflation Rate reflects the average percentage by which the price of a specific basket of goods and services purchased in the United States has increased. The U.S.…
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Alleged Best Practices to Whom? Peter J. Butler, CFA, ASA, MBA, founder of Valtrend, LLC and inventor of the Total Cost of Equity Calculator (TCOE), responds to comments made by Robert Reilly and Connor Thurman regarding best practices used to arrive at the company specific risk; the latter article did not discuss the TCOE and here he “key[s] in on Part III—the section which addresses empirical evidence in the selection of the company specific risk premium (CSRP)” and merits of the TCOE. Introduction I read all four parts of the “Best Practices for Estimating the Company-Specific Risk Premium” in NACVA’s…
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The Consistency of Data and Trends The real estate sector encompasses a variety of activities, limited only by the imagination, including: selling, leasing, management, development, appraisal, title services, and investment. When valuing businesses linked to the real estate market, whether directly or indirectly, it is essential to examine both the risk and the cash flow generating ability of each company. The co-authors of this article share essential aspects appraisers must consider in these valuation engagements. The real estate sector encompasses a variety of activities, limited only by the imagination, including: selling, leasing, management, development, appraisal, title services, and investment. When…
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(Part II of II) There are special tax considerations related to the transfer of S corporation stock at the time of the owner’s death. Therefore, owners of S corporation stock must be intentional with regard to the risks (and the tax costs) associated with an inadvertent termination of the subject entity’s S corporation status. S corporation owners—and analysts—should be aware that many states tax S corporations for state corporation income tax purposes. Many states tax S corporations as if they were C corporations. In addition, many other states apply a special corporate income tax rate to S corporations. The second…
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(Part I of II) Analysts are quick to identify and quantify the implicit and explicit S status economic benefits in the S corporation business valuation. The objective of this discussion is to summarize the offsetting economic risks associated with an S corporation ownership interest. Analysts should be equally aware—and intentionally consider the risks as well as the benefits—of S corporation status in the subject private company or professional practice valuation. This discussion summarizes many of these risk factors that analysts, private company/practice stockholders, and the company/practice professional advisers should consider in the valuation of an S corporation ownership interest. Part…
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Identification First! Few articles in the business valuation profession address the identification component of valuing goodwill, particularly personal or professional goodwill in the context of matrimonial dissolution matters. Current literature provides valuation professionals with techniques regarding the quantification or valuation exercise (e.g., cost approach, discounted cash flow, relief from royalty, etc.); however, this leaves professionals in some cases quantifying goodwill without determining what, if any, personal goodwill characteristics exist. This potential misstep may leave a valuation professional not addressing or identifying evidence to support that such an intangible asset exists. This article focuses on suggested practices to identify personal goodwill…
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Conclusory Conclusions and Opinionated Opinions Tests of Time While there is usually more than one reason that something bad occurs, it is often standard setters or practitioners that are rightfully or wrongfully accused of actions or inactions that may or do have a detrimental impact on an industry, case, business, or even members of a protected class. This twelfth article of the unimpeachable neutrality series will further define the newly thingified concept of a “mechanism of compliance” and emphasize why standard setters, parents, and employers should never make a rule without a provable, measurable, and defendable mechanism of compliance. I…