A Leverage ESOP versus a Non-Leverage ESOP An employee stock ownership plan (ESOP) is a qualified retirement plan that allows employees to hold equity in the sponsor company that employs them. There are various strategies that may be considered when the sponsor company forms an ESOP. One important structural decision regarding the ESOP formation is whether the ESOP will be leveraged or non-leveraged. This discussion compares the leveraged ESOP structure and the non-leveraged ESOP structure. Introduction There is a reason for the phrase, “no two ESOPs are alike.” An employee stock ownership plan (ESOP) can be structured to meet a…
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Miscalculations and Entitlement Traps? What exactly is a “Legacy Payment”? Legacy Payments are those payments made to the prior generation when the next generation buys a family business. These payments include the debt service, principal and interest, on the purchase of the family business and possibly the real estate too; in addition, there are other types of Legacy Payments that can add weight to the total payments expected by the exiting family members. In this article, the author discusses what could go wrong and how legacy payments and an entitlement mindset can lead to the demise of the business. Ok,…
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Thinking Through the Valuation Implications of COVID-19 As business valuation professionals, we are required to project the economic future of a business. In the past, valuation professionals used many sources of information to reduce the uncertainties inherent in valuation, key among them: 1) past performance, 2) industry reports, 3) company and/or stock sale data, and 4) cost of capital data. Now, valuation professionals are suddenly faced with these resources having lost much of their predictive value and reports are due. Throwing up one’s hands is not an option. Since very few valuation professionals have the prognostic abilities of Nostradamus, the…
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Recognize and Avoid Substantial Valuation Differentials One of the critical inputs in the capital asset pricing model (CAPM) is beta. In practice, there are two typical ways beta is estimated. Making an incorrect assumption could lead to substantial valuation differentials of over 10% in many cases and can lead to valuation differentials of over 50% in some instances. In addition, our analysis indicates that we would not be able to tell the direction and magnitude of the valuation differential in advance unless the correct calculation is performed. One of the critical inputs in the capital asset pricing model (CAPM) is…
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On April 8, 2020, the American Society of Appraisers (ASA), CBV Institute, Global Association of Certified Valuators and Analysts (GACVA), National Association of Certified Valuators and Analysts (NACVA), and The Royal Institution of Chartered Surveyors (RICS) collaborated to host a free virtual town hall to discuss how the COVID-19 pandemic will impact business valuation analysts and appraisal titled “Impact of COVID-19 to Global Business Valuation and Appraisal.” This article attempts to unpack the post-COVID-19 guidance discussed during this town hall and provide a synthesized breakdown of the most critical advice provided. [su_pullquote align=”right”]Resources:NACVA COVID-19 Public Service Campaign | Staying in…
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Buyer and Seller Beware When a privately-held acquirer uses its stock to partly purchase a company, it is imperative that both the acquirer and the target in a transaction have support for, and a level of comfort with, the value assigned to the acquirer’s shares if they are being issued as part of the deal. It is especially important for the seller to conduct its own due diligence to better assess its risk exposure and understand the fair value of intangible assets. This article discusses procedures that sellers and buyers should consider before finalizing the terms. We are all familiar…
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What Do We Do Moving Forward in Time? The coronavirus and the events unleashed by the outbreak were unforeseeable to professionals preparing reports as of the end of 2019. What do we, as valuation and litigation support professionals, do moving forward in time when we are engaged to value a business? Here, the author, Ron Rudich, answers these questions. Gary R. Trugman wrote in his tome, Understanding Business Valuation, A Practical Guide to Valuing Small to Medium-Sized Businesses, Second Edition, beginning on page 510, the following: Valuation as of a Specific Date A business valuation is similar to a balance…
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Valuation Issues for Wind and Mineral Surface Development Rights As wind energy has emerged as a leading source of energy, several issues have arisen with respect to the rights of parties holding surface and mineral rights. There are important legal issues that need to be explored to assess whether to develop a wind energy farm. This article provides a historical and brief legal overview of the issues. By the mid-19th Century, the effects of the Industrial Revolution had created a need for a cheaper and more convenient fossil fuel than coal: petroleum. Edwin Drake had drilled the first oil well…
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On the Valuation of Small Businesses What is the impact of coronavirus on small businesses? What should valuation analysts consider in light of the stock market downfall when valuing a small business. The author shares his thoughts on the impact of coronavirus when valuing small businesses. The coronavirus pandemic is wrecking havoc on the global economy as we have seen last week with the stock market crash that compares to what we saw in 2008 during the financial crisis. Many businesses, big and small, have lost an incredible amount of money last week alone. And may still lose more in…
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In Related-Party Cost Sharing Arrangements (Part II of II) This two-part paper demonstrates how the discount rate associated with the investment in intangibles developed under a cost sharing arrangement can be calculated using an analytical framework that explicitly considers variability of outcomes in profitability of the intangibles to be developed. Such framework is the probability-weighted scenario analysis. The method of calculating discount rates using the scenario analysis can be applied to compute the PCT payment under both the “income method” and the “residual profit split method” described in the U.S. transfer pricing regulations. The same method also allows to calculate…
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In Related-Party Cost Sharing Arrangements (Part I of II) This two-part paper demonstrates how the discount rate associated with the investment in intangibles developed under a cost sharing arrangement can be calculated using an analytical framework that explicitly considers variability of outcomes in profitability of the intangibles to be developed. Such framework is the probability-weighted scenario analysis. The method of calculating discount rates using the scenario analysis can be applied to compute the PCT payment under both the “income method” and the “residual profit split method” described in the U.S. transfer pricing regulations. The same method also allows to calculate…
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The Art and Science Most businesses have special characteristics that affect its value. Some are endemic to the industry and some relate to the personal nature of those managing the business. Wealth management businesses have both characteristics. Here are some considerations that go into determining the valuation. Most businesses have special characteristics that affect its value. Some are endemic to the industry and some relate to the personal nature of those managing the business. Wealth management businesses have both characteristics. Here are some considerations that go into determining the valuation. Defining a Wealth Management Business Wealth management businesses manage investible…
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To Attract or Retain Key Employees To both attract and retain key employees, many private companies have added stock-based compensation grants to their portfolio of employee compensation arrangements. An important component of any private company stock-based compensation arrangement is the value of the private company stock. Therefore, private company clients expect valuation analysts to be at least generally familiar with the management considerations related to such stock-based compensation programs. This discussion summarizes some of the basic—but important—income tax considerations about the compensatory transfer of employer corporation stock. This discussion summarizes both the employer’s and the employee’s federal income tax considerations…
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Asset Values (Part III of III) This is the third of a three-part article that focuses on valuing nonprofit corporation assets. Valuation analysts are commonly engaged to provide fair market value guidance related to nonprofit business transactions. Nonprofit businesses are often involved in arms-length transactions. Common transactions include royalty payments for the use of intellectual property, royalty revenue earned by licensing intellectual property, sales of assets, and purchases of assets. If the subject transaction is between a nonprofit and a related party, the transaction is required to be a fair market value transaction. This series provides an example of certain…
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Asset Values (Part II of III) This is the second of a three-part article that focuses on valuing nonprofit corporation assets. Valuation analysts are commonly engaged to provide fair market value guidance related to nonprofit business transactions. Nonprofit businesses are often involved in arms-length transactions. Common transactions include royalty payments for the use of intellectual property, royalty revenue earned by licensing intellectual property, sales of assets, and purchases of assets. If the subject transaction is between a nonprofit and a related party, the transaction is required to be a fair market value transaction. This series provides an example of certain…
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Asset Values (Part I of III) This is a three-part article that focuses on valuing nonprofit corporation assets. Valuation analysts are commonly engaged to provide fair market value guidance related to nonprofit business transactions. Nonprofit businesses are often involved in arms-length transactions. Common transactions include royalty payments for the use of intellectual property, royalty revenue earned by licensing intellectual property, sales of assets, and purchases of assets. If the subject transaction is between a nonprofit and a related party, the transaction is required to be a fair market value transaction. This series provides an example of certain steps and procedures…
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In the Formation of an ESOP Mr. Robert Reilly, in a two-part January 2020 QuickRead article, as published by NACVA, provides a detailed and learned discussion regarding the role a valuation analyst might play in the early stages of the formation of an Employee Stock Ownership Plan (ESOP). This paper is not intended to be, in any way, a critique of Mr. Reilly’s presentation, but rather an appendix highlighting some of the many risks a valuation analyst will face when accepting an ESOP related engagement. Mr. Robert Reilly, in a two-part January 2020 QuickRead article, as published by NACVA, provides…
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Robert Reilly Shares His Thoughts on Impressions Should a valuation analyst accept an ESOP valuation engagement? That is the question raised by Michael McKean in his article written in response to the recent QuickRead article series by Robert Reilly. In this article, Mr. Reilly shares his thoughts on the subject matter. I am old enough to remember the early television show, The Original Amateur Hour. I started watching the show in the 1950s, although it debuted on television in 1948 (before my time). I remember the spinning wheel and the phrase, “Round and round she goes, and where she stops…
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In an ESOP Formation Financial Feasibility Analysis (Part II of II) This is the second of two-part article that discusses ESOPs. In this part, the author focuses on quality of earnings, liquidity, and plan design analyses. Owners of a private company who are looking for an exit strategy may consider the sale of all (or part) of the company to an employee stock ownership plan (ESOP). Such a strategy may be particularly attractive to baby boomer private company owners who are seeking retirement and liquidity and who would prefer to see their loyal employees retain a stake in the company…
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In an ESOP Formation Financial Feasibility Analysis (Part I of II) This two-part article discusses ESOPs. Owners of a private company who are looking for an exit strategy may consider the sale of all (or part) of the company to an employee stock ownership plan (ESOP). Such a strategy may be particularly attractive to baby boomer private company owners who are seeking retirement and liquidity and who would prefer to see their loyal employees retain a stake in the company ownership. This article considers the role of the valuation analyst in performing an ESOP financial feasibility analysis. Such an analysis…