Business Valuation and Bankruptcy E-Book

Ian Ratner

• Herausgeber: John Wiley & Sons
• Kategorie: Fachliteratur
• Serie: Wiley Finance Editions
• Sprache: Englisch

Seitenzahl: 432

Veröffentlichungsjahr: 2009

Beschreibung

An essential guide to business valuation and bankruptcy Business Valuation and Bankruptcy helps you-whether you are an accountant dealing with a troubled company, a lender, an investor, a bankruptcy and restructuring lawyer/financial advisor, or a private equity player-to focus on solving everyday and case determinative disputes when creditors, lenders, and debtors have differing views of value. Introducing valuation issues early on in the restructuring/bankruptcy process so you can plan accordingly, this book offers * Many real life case examples, case descriptions, and tables to demonstrate the applicable sections of the Bankruptcy Laws * A review of the methods, applications, pros and cons of restructuring with the basic tools to understanding it * A description of the life cycle of a troubled company and the various stages of a restructuring * An analysis of the valuation issues that confront practitioners in the real world of application of the law Business Valuation and Bankruptcy is written in terms that are common to bankruptcy professionals and is essential, timely reading for players in the bankruptcy and restructuring environment.

Leseprobe

Table of Contents

Title Page

Copyright Page

Preface

CHAPTER 1 - Introduction

THE TROUBLED COMPANY CONTINUUM

OPERATIONAL AND FINANCIAL DISSTRESS

THE TROUBLED COMPANY RESPONSE

VALUATION IN REORGANIZATION OR BANKRUPTCY

CONCLUSION

CHAPTER 2 - Industry Practitioners and Standards

PROFESSIONAL ORGANIZATIONS AND BUSINESS VALUATION STANDARDS

BUSINESS VALUATION PRACTITIONERS AND CERTIFICATIONS

CONCLUSION

NOTES

CHAPTER 3 - The Basics of Business Valuation

THE PURPOSE OF THE VALUATION

STANDARD OF VALUE

PREMISE OF VALUE—GOING CONCERN OR LIQUIDATION

VALUATION APPROACHES

FUNDAMENTALS

CONCLUSION

NOTES

CHAPTER 4 - Income Approach

DISCOUNTED CASH FLOW METHOD

CAPITALIZED CASH FLOW METHOD

CONCLUSION

NOTE

CHAPTER 5 - Market Approach

GUIDELINE COMPANY METHOD

COMPARABLE TRANSACTION METHOD

CONCLUSION

CHAPTER 6 - United States Bankruptcy Code

INTRODUCTION TO THE STRUCTURE OF THE BANKRUPTCY CODE

COMMENCEMENT OF A BANKRUPTCY CASE AND FILING OF SCHEDULES

CHAPTER 7 OF THE BANKRUPTCY CODE

CHAPTER 11 OF THE BANKRUPTCY CODE

AVOIDING POWERS UNDER THE BANKRUPTCY CODE—PREFERENCES

AVOIDING POWERS UNDER THE BANKRUPTCY CODE—FRAUDULENT TRANSFERS

VALUATION PRINCIPLES FROM THE BANKRUPTCY COURTS

CONCLUSION

NOTES

CHAPTER 7 - Valuations in Bankruptcy as of the Date of the Hearing

INTRODUCTION

RELIEF FROM THE AUTOMATIC STAY AND ADEQUATE PROTECTION

§363 SALES

USE OF CASH COLLATERAL

DISCLOSURE STATEMENT

PLAN CONFIRMATION—FEASIBILITY

PLAN CONFIRMATION—BEST-INTERESTS-OF-CREDITORS TEST

PLAN CONFIRMATION—CRAM DOWN

CONCLUSION

NOTES

CHAPTER 8 - Valuations in Bankruptcy at a Time in the Past—Avoidance Actions

OVERVIEW

AVOIDANCE ACTIONS—PREFERENCES

AVOIDANCE ACTIONS—FRAUDULENT TRANSFERS

THE APPLICABLE LEGAL TESTS FOR INSOLVENCY

INSOLVENCY TEST: VALUATION OF DEBTS

INSOLVENCY TEST: THE VALUATION OF ASSETS

PROOF OF INSOLVENCY BY RETROJECTION

THE INSOLVENCY TEST: COMPARING ASSETS AND DEBTS

IS THE PUBLIC MARKET’SASSESSMENT IN THE PAST CONCLUSIVE PROOF OF SOLVENCY, EVEN ...

USE OF HINDSIGHT IN THE VALUATION PROCESS

CONCLUSION

NOTES

CHAPTER 9 - Solvency Opinions

INTRODUCTION

WHO USES SOLVENCY OPINIONS?

SOLVENCY OPINION PREPARATION

SOLVENCY METRICS

CASE STUDIES

CONCLUSION

NOTES

CHAPTER 10 - Daubert

CHALLENGES TO EXPERTS OR THEIR TESTIMONY

LACK OF RELEVANCE

PRACTICAL LESSONS FROM DAUBERT CASES FOR EXPERTS AND LAWYERS

CONCLUSION

NOTES

APPENDIX - AICPA Statement on Standards for Valuation Services No. 1, Valuation ...

Index

Copyright © 2009 by John Wiley & Sons, Inc. All rights reserved.

Published by John Wiley & Sons, Inc., Hoboken, New Jersey.

Published simultaneously in Canada.

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Library of Congress Cataloging-in-Publication Data:

Ratner, Ian.

Business valuation and bankruptcy / Ian Ratner, Grant Stein, John Weitnauer. p. cm.—(Wiley finance series; 521)

Includes index.

Summary: “An essential guide to business valuation and bankruptcy, Business Valuation and Bankruptcy helps you—whether you are an accountant dealing with a troubled company, a lender, an investor, a bankruptcy and restructuring lawyer/financial advisor, or a private equity player—to focus on solving everyday and case determinative disputes when creditors, lenders, and debtors have differing views of value. Introducing valuation issues early on in the restructuring/bankruptcy process so you can plan accordingly, this book offers many real-life case examples and case descriptions. Business Valuation and Bankruptcy includes a review of the various approaches and methods to value a business and insight into when to apply each, a description of the life cycle of a troubled company and the various stages of a restructuring, an analysis of the valuation issues that confront practitioners in the real world of troubled companies and bankruptcy, and the application of business valuation issues to bankruptcy law. Business Valuation and Bankruptcy is written in terms that are common to bankruptcy professionals and is essential, timely reading for players in the bankruptcy and restructuring environment”—Provided by publisher.

eISBN : 978-0-470-56446-2

1. Business—Valuation. 2. Bankruptcy. I. Stein, Grant. II. Weitnauer, John. III. Title.

HG4028.V3R.15—dc22 2009025212

Preface

This book is an integrated reference source for those involved in the valuation of a business in a commercial environment, with the focus on formal bankruptcy proceedings and distressed situations. It has been written by practitioners who have practical experience in the commercial courtroom, and the insights and analysis it contains are reflective of their collective substantial experience.

Ian Ratner is a CPA accredited in business valuation by the AICPA and the American Society of Appraisers. He is also a Certified Fraud Examiner and one of the founding members of GlassRatner Advisory & Capital Group LLC. Ian is a nationally known bankruptcy advisor and forensic accountant who regularly performs business valuations and deals with complex valuation issues in commercial disputes and bankruptcy-related matters. Ian regularly acts as a trial preparation consultant and expert witness in commercial disputes and bankruptcy cases. Kit Weitnauer and Grant Stein are senior partners with Alston & Bird LLP who practice commercial bankruptcy law and try commercial cases throughout the United States, including cases involving valuation issues. Mr. Stein began working on valuation issues in the distressed debt environment while at business school at Emory University in the mid 1970’s, and has carried that through into his legal practice having tried numerous commercial valuation disputes in the federal bankruptcy courts, federal district courts and state courts. Mr. Weitnauer was one of the two trial lawyers for the plaintiff in the $1.35 billion fraudulent conveyance jury verdict obtained in MAN AG et al. v. Freightliner LLC et al. MAN was tried in Oregon under Oregon’s version of the Uniform Fraudulent Transfer Act. The verdict included $350 million in punitive damages. This constituted the largest jury verdict in the United States in 2006. Mr. Weitnauer’s primary responsibilities at trial was to direct the cross-examination the of all of the valuation experts. The authors were assisted by Leanne Gould, Prashanth Setty, and Wayne Weitz, all qualified and experienced professionals in the area of financial statement analysis and business valuation.

The bankruptcy process is a judicial process that is not always well understood by the noninitiated. For the accountant and business professional, this book provides background on the bankruptcy process, acts as a basic tool in the area of business valuation, and demonstrates the connection between these disciplines.

For the valuation expert, this book highlights the application of the business valuation discipline to the bankruptcy environment. It covers the key principles in practice, and explains both the legal environment in which the valuation testimony is received, and how the testimony is evaluated to determine its admissibility. Plan confirmation, preferences, fraudulent conveyance, adequate protection, timing issues on each of these, going-concern values, liquidation values, and the whens, whats, and whys are all explored. Valuation professionals will do a better job for their clients with a full understanding of the context of their work and the issues facing the trial lawyers.

For the lawyer, the book is a concise compendium of valuation standards and legal principles, including an outstanding discussion of Daubert principles dealing with the standards for admission of expert testimony applicable in the valuation context focusing on bankruptcy and insolvency questions.

CHAPTER 1

Introduction

THE TROUBLED COMPANY CONTINUUM

Companies can have four stages in their life cycle: the start-up or development phase, the growth phase, the maturity or stabilization phase, and in many cases, the disruption or decline phase.

Start-up or development-stage companies are early stage companies seeking financing for product development and market testing. In many cases commercialization of the companies’ products or services is not fully established. During this early stage of development, proof of concept is the goal. Once companies live through the start-up stage, they move on to the growth stage, where they have gained momentum in sales and market acceptance. During this stage, companies hire experienced management, and some form of permanent financing has been obtained. Mature companies have an established customer base, vendor network, business processes, and products or services. Mature companies often expand to new regions or attempt to grow in a horizontal or vertical manner both organically and through mergers and acquisitions. During this period, private companies often deal with wealth and ownership transfer issues.

If all companies followed the process just described and the economy maintained a stable growth rate, business would be less complicated, and there would be no need for this book. However, there is usually a disruption or period of decline either at some stage of a company’s development, or as part of a general economic cycle that affects companies in the same industry or region. Business professionals and economists agree that it is highly unlikely for any company (or the economy) to maintain an upward trend indefinitely. This truth is playing out in the current downturn of the global economy.

Not all problems are similar or have the same level of severity; troubled companies move along a continuum. The continuum goes from a short-term liquidity crunch to the realization that the existing business model is simply no longer viable. When this happens companies are faced with the challenge of restructuring or being liquidated.

EXHIBIT 1.1 Business-Decline Curve

The business-decline curve (shown in Exhibit 1.1) is a graphical representation of challenges faced by troubled companies along the continuum. When faced with financial or operational stress, even experienced managers often assume that the impairment is temporary and that performance will return to the norm. During this denial phase, management is more likely to focus on tracking performance for signs of expected recovery than to investigate and correct the root cause of the decline. This reaction is akin to treating the symptom of a disease without addressing the cause. The time wasted during the denial phase often allows the root cause to manifest itself in the form of balance-sheet strain. Continued losses, or even reduced margins in the case of a high-growth company, can quickly result in increased leverage and working-capital shortages. As the financial strain increases, management becomes more reactionary than proactive and typically lacks the time and resources necessary to resolve the root causes that brought on the decline. Unfortunately, the further down the curve management allows a company to travel, the less control management has over the outcome. Ultimately, as the situation evolves, control may be taken from the company and placed in the hands of other stakeholders or proceed in a judicial setting such as a bankruptcy.

The most controllable variable on the business decline curve is the time spent in the management denial phase. Excessive time spent in the denial phase makes the remainder of the trip down the curve almost inevitable.

Typically, troubled companies have roots in either operational stress or financial stress and most of the time some combination of both.

OPERATIONAL AND FINANCIAL DISSTRESS

Operational stress may occur for a number of reasons, including competition from other companies, competition from replacement products and services, the departure of key employees or management, rapid changes in raw material quality or availability, changes in cost structure that cannot be passed on to consumers, or a change in the demand for the company’s products or services. Whatever the reason for the operational stress, the financial outcomes are typically declining revenues or market share, increasing operating expenses, decreasing operating margins, and liquidity constraints. If the troubled company is unable to address the business issues causing the operational stress and react to reduce expenses, increase revenues, raise capital to meet short-term requirements, or some combination, then the business will soon inevitably experience financial stress and possibly insolvency.

Financial stress is likely to occur when the company’s existing leverage is excessive, and the company finds it hard or impossible to make scheduled debt or principal payments. This is often the case when a company has been subject to a leveraged buyout transaction or other leveraged transaction. Financial stress is also evident in companies whose capitalization ultimately does not support its operations going forward. One common example of this type of capitalization is a company that has financed long-term assets, such as plant and equipment, through short-term financing, such as accounts payable and short-term lines of credit. When this happens, the business will starve for working capital because all the working capital sources are being consumed to sustain the long-term assets.

The expression, “good company with a bad balance sheet,” is often used to describe a company that has a strong operational base but is in financial stress. If the troubled company is unable to refinance its existing debt or to divest noncore assets to cover its interest expense, then the company may face insolvency.

Operational and financial stresses are not mutually exclusive, meaning that a company with a strong financial position may be struggling operationally, and a company with strong operating activity may be struggling financially.

THE TROUBLED COMPANY RESPONSE

Prebankruptcy Options for the Troubled Company

Troubled companies do not immediately file for bankruptcy. Instead, once the operational or financial distress is recognized, the troubled company can take corrective steps.

Sometimes, instead of promptly analyzing and addressing operational problems, management is unwilling or unable to face the problems and make the hard choices necessary to tackle the problems. As a result, creditors concerned about the company’s future will often require, as a condition to any forbearance agreement or loan amendment, that the company retain an outside consultant. Many companies can and have accomplished a successful operational turnaround outside of bankruptcy.

Financial distress can sometimes be relieved by one or more techniques, such as:

• Sale of part of the company

• Strategic acquisitions by the company

• New equity investments in the company

• Tender offer for debt

• Recapitalization of the business

• Interim forbearance by lenders

• Exchange offers, either debt for debt, debt for equity, or debt for debt and equity

Valuations are often needed by a troubled company before bankruptcy as part of the efforts of the company and its creditors to solve operational or financial distress. For instance, if operational distress has caused a company to miss financial ratio covenants contained in its loan agreements, as part of an amendment or forbearance, lenders may obtain or require the company to provide a valuation of its business. Similarly, efforts to sell the company or portions of the company’s business will be preceded by a valuation of same as part of the due diligence process.

In some cases, deleveraging transactions can be achieved only through a Chapter 11 bankruptcy case.

Bankruptcy and Similar Remedies for the Troubled Company

When the troubled company cannot correct its operational or financial distress it may have no choice but to (1) surrender its assets to its secured creditors (or be subject to foreclosure by the secured creditors) and/or (2) cease operations, liquidate its remaining assets, and satisfy its debts to the extent possible. Where foreclosure or liquidation is the only option, many companies will choose to file a Chapter 7 bankruptcy case and allow the liquidation to be handled by a court-appointed trustee pursuant to the applicable provisions of the Bankruptcy Code.

In cases in which a company’s financial distress can be addressed through the reorganization provisions of the Bankruptcy Code, the troubled company may file a Chapter 11 case. The goal of a Chapter 11 case is the confirmation of a plan of reorganization, which results in the business that filed Chapter 11 continuing to operate postbankruptcy and being successfully reorganized. The fundamentals of a Chapter 7 and Chapter 11 bankruptcy are discussed in Chapter 6, Overview of U.S. Bankruptcy.

VALUATION IN REORGANIZATION OR BANKRUPTCY

Regardless of whether a troubled company can successfully reorganize prior to bankruptcy, or in bankruptcy, or is ultimately liquidated, there is significant need for business valuations at different points during the continuum.

Valuations prior to bankruptcy will be required on many occasions for different users. Equity investors considering an investment in a troubled company may require a valuation to determine the impact on value that their investment could make on the company and assist them in developing yield expectations on their potential investment. Lenders may require a valuation to assess their loan-to-value position. For example, during the workout process, a lender will make decisions based on the value of the business versus the amount of debt outstanding. Management contemplating the divestiture of a portion of the business will require a valuation to assess the viability of the potential divestiture and the impact it would have on the company’s financial situation. Entities or individuals acquiring troubled companies prior to bankruptcy also require a valuation to assist them in their decision-making process. Finally, any prebankruptcy global reorganization will require a valuation.

At many times during the bankruptcy process, valuations of the debtor’s business (or specific assets owned by the debtor) are necessary. For example, valuations are needed in connection with a motion to lift the automatic stay (discussed at Chapter 7), to obtain adequate protection (discussed at Chapter 7), to seek or oppose confirmation of a plan of reorganization (discussed at Chapter 7), to prosecute or defend actions to recover preferential transfers (discussed at Chapter 8), or to recover fraudulent transfers (discussed at Chapter 8).

Often, the valuation question is, What is the value now? When answering that question, the expert delivers his or her opinion of current value (the valuation date) at a court hearing (the opinion date), and the court decides the current value of the business or asset. In this situation, the valuation date and the opinion date are the same.

In other situations, the valuation question is, What was the value then? When answering that question, the valuation date is a specific date in the past, but the expert gives his or her opinion now, at a court hearing or the date of his or her report. Then, the valuation date and the opinion date are different.

CONCLUSION

The valuation discipline is equally important in the troubled company space as in any other phase of a business’s life cycle. Business valuations for troubled companies or companies in the bankruptcy process present a unique set of challenges for professionals involved with them. This book will delve into these challenges and the business valuation environment in the context of troubled companies, both before and during bankruptcy.

CHAPTER 2

Industry Practitioners and Standards

Valuations are performed by a wide variety of practitioners for an even wider variety of purposes including solvency opinions, plan confirmations, and other matters that arise in bankruptcy cases. These practitioners may be certified in business valuation or appraisal by a professional organization or may simply have experience in negotiating and executing transactions. Regardless of who prepares business valuations, the reliance on judgment and the art of financial analysis is central to the process. As such, a valuation of a specific business by two different practitioners may produce widely different results and be the subject of contention between interested parties. Understanding the need for generally accepted business valuation or appraisal practices, various organizations have adopted developmental and reporting standards and certification programs. These programs and standards provide guidance and training to member practitioners but more importantly provide users a level of confidence in the valuation approach and conclusions reached.

This chapter will describe who is preparing valuations for bankruptcy purposes, the various professional organizations that have established business valuation standards, what those standards are, how they differ, and why standards are important to the valuation industry and to interested parties in a bankruptcy.

PROFESSIONAL ORGANIZATIONS AND BUSINESSVALUATION STANDARDS

Each of the credentialed valuation practitioners identified in the sections that follow are affiliated with a professional organization and must adhere to the professional, ethical, and procedural standards established by that particular organization. Credentialed valuation practitioners who hold multiple designations must be careful to apply the standards appropriate to the purpose and/or subject of the valuation as standards may differ between organizations. This section begins by providing a brief history of each of the professional organizations involved with setting valuations standards and credentialing practitioners.

Professional Organizations

American Institute of Certified Public Accountants The origination of what is today the American Institute of Certified Public Accountants (AICPA) dates back to 1887. The AICPA is a national organization of Certified Public Accountants (CPAs) with international reach. The AICPA’s over 350,000 members practice not only in public accounting but also in business, consulting, law, government, and education.1 Members of the AICPA agree to be bound by the AICPA’s Bylaws and Professional Code of Conduct and, if active, comply with certain continuing education requirements and practice-specific standards. These practice-specific standards cover a wide variety of specializations including audit, tax, and more recently, business valuation.

In 1998, the AICPA instituted the Accredited in Business Valuation (ABV) credential program as valuation services became a more prominent practice area for its members. One of the objectives of the ABV credential program was, and is, to enhance the quality of business valuation services provided by CPAs. In 2004, the Forensic and Valuation Services (FVS) section of the AICPA was created to further support valuation practitioners through education, news, advocacy, access to practice resources, and other benefits. In order to improve the consistency and quality of valuation services provided by its members, to promote transparency, and establish generally accepted best practices, the AICPA issued the Statement on Standards for Valuation Services No. 1, “Valuation of a Business, Business Ownership Interest, Security, or Intangible Asset” (SSVS No. 1). The SSVS No. 1 became effective for engagements accepted on or after January 1, 2008 and applies to all AICPA members regardless of specialization unless specifically exempted. In addition to SSVS No. 1 and AICPA Professional Standards, members are encouraged to look to the Uniform Standards of Professional Appraisal Practice (USPAP), guidance from the IRS, any relevant case law, and other guidance that may be applicable to specific valuation engagements. Furthermore, to enhance communication between valuation practitioners and users of valuation services, the AICPA adopted the International Glossary of Business Valuation Terms, which is discussed later in this text.

American Society of Appraisers Originated in 1936, the American Society of Appraisers (ASA) is an international organization representing all appraisal disciplines, including machinery and technical specialties, real property, and business valuation. The ASA currently has 5,000 members in the United States and more than 40 other countries. Regardless of discipline, members are required to pass the ASA’s Ethics Examination and a course and examination on the Uniform Standards of Appraisal Practice (USPAP).2 Furthermore, each member is required to uphold the ASA’s Principles of Appraisal Practice and Code of Ethics and to comply with established continuing education requirements.

In 1981, the ASA recognized business valuation as a separate appraisal discipline and began accrediting members. Designations held by ASA members include Accredited Member (AM), Accredited Senior Appraiser (ASA), and Fellow Accredited Senior Appraiser.

In 1987, the ASA and eight other appraisal societies founded The Appraisal Foundation, a national nonprofit organization created to establish uniform criteria for professional appraisers, the USPAP.3 In 1992, the ASA’s Business Valuation Committee adopted the ASA Business Valuation Standards, which incorporated certain portions of the USPAP.4 These standards “provide minimum criteria to be followed in developing and reporting the valuation of businesses, business ownership interests, securities and intangible assets” and “a structure for regulating the development and reporting of business valuations through uniform practices and procedures.” 5 The Business Valuation Standards are categorized into nine sections, and incorporate related clarifying statements, advisory opinions, procedural guidelines, and a glossary of terms, many of which are included in the International Glossary of Business Valuation Terms.

The Canadian Institute of Chartered Business Valuators The Canadian Institute of Chartered Business Valuators (CICBV) was established in 1971 and is the largest professional valuation organization in Canada with approximately 1,200 members. Members of the CICBV include individuals with backgrounds in commerce, accounting, economics, and finance. Members meeting the experience, training, and examination requirements of the CICBV are awarded the Chartered Business Valuator (CBV) designation. Members of the CICBV are required to abide by the organization’s Code of Ethics and Practice Standards. The 12 standards and related appendices cover topics including valuation for financial reporting, fairness opinions, advisory reports, expert reports, and limited critique reports. The CICBV also publishes practice bulletins to provide members additional guidance, and it has adopted the International Glossary of Business Valuation Terms.

National Association of Certified Valuation Analysts The National Association of Certified Valuation Analysts (NACVA) was founded in 1991 as an association of CPA and non-CPA valuation practitioners. Recently, the organization expanded its membership to include financial forensics and other related advisory services. The NACVA has approximately 6,600 members of which 6,300 practice in the business valuation area. Members meeting the educational, training, and examination requirements of the NACVA for certification may obtain a designation as an Accredited Valuation Analyst (AVA). Those members holding a valid CPA license may qualify for the Certified Valuation Analyst (CVA) designation. Members of the NACVA holding the CVA and AVA credentials are required to comply with the organization’s Professional Standards and Ethics Policies and Procedures and are encouraged to refer to the USPAP, IRS Business Valuation Guidelines, and other authorities for additional guidance. Furthermore, credentialed members must also comply with the NACVA’s continuing education requirements for recertification.

In 2005, the NACVA executive advisory board, and other interested parties, provided comments to the AICPA’s exposure draft outlining proposed valuation standards for AICPA members. Upon issuance of the AICPA’s Statement on Standards for Valuation Services No. 1 (SSVS No. 1), the NACVA Professional Standards were revised to “eliminate conflicts and draw parity between the two.”

Institute of Business Appraisers The Institute of Business Appraisers (IBA) was established in 1978 and is the “oldest professional society devoted solely to the appraisal of closely held businesses.”6 In addition to offering its 1,300 members education, credentialing opportunities, and other benefits, the IBA maintains one of the largest transactional databases of sales of small to midsized businesses. Members agree to abide by the organization’s Code of Ethics and Business Appraisal Standards, and those members meeting established educational and appraisal experience criteria may obtain one of the following credentials: Master Certified Business Appraiser (MCBA), Certified Business Appraiser (CBA), or Accredited by IBA (AIBA). Additional credentials offered by the IBA include Business Valuator Accredited for Litigation (BVAL) and Accredited in Business Appraisal Review (ABAR). The IBA Founding Standards Committee has recognized the contributions of individuals associated with The Appraisal Foundation and the ASA in the development of the organization’s Business Appraisal Standards.

Association of Insolvency & Restructuring Advisors The Association of Insolvency & Restructuring Advisors (AIRA) was organized in 1984 to support accountants, financial advisors, attorneys, workout consultants, trustees, and others involved in business turnaround, restructuring, insolvency, and bankruptcy matters.

The AIRA offers its over 1,700 members continuing education and certification programs leading to the Certified Insolvency and Reorganization Accountant (CIRA) and Certification in Distressed Business Valuation (CDBV) designations. The CIRA program was developed in 1992 and has accredited over 725 members. Course content for both the CIRA and CDBV designations include valuation analysis with more advanced topics and application covered in the CDBV curriculum. The CDBV experience requirement also includes submission of a formal valuation report or other materials demonstrating the analyses performed. Outside of the curriculum established for the CIRA and CDBV accreditation, the AIRA has not established its own valuation-specific standards.

CFA Institute The origins of the CFA Institute and its predecessor organizations date back to 1925. Although the CFA Institute as it is organized today was incorporated in 1999, its Chartered Financial Analyst (CFA) accreditation program has existed since 1963. Today the CFA Institute boasts over 96,000 members in 134 countries and territories. CFA Institute members are employed by a variety of organizations including investment companies, mutual funds, broker-dealer/investment banks, banks, consulting firms, insurance companies, pensions and foundations, and research and academic institutions.

In order to become a CFA Charter holder, candidates must pass three levels of examinations covering the CFA Institute Code of Ethics and Standards of Professional Conduct, Investment Tools, Asset Valuation, and Portfolio Management. The Asset Valuation curriculum includes analysis of equity investments, fixed income investments, derivatives, and alternative investments such as real estate, closely held companies, distressed securities/ bankruptcies, and private equity investments. The CFA Institute recommends, but does not require, continuing education of its members. While the CFA Institute has not published business valuation-specific standards, the organization has set a variety of practice-specific standards and guidelines for its members, including creation of the Global Investment Performance Standards (GIPS®), “a set of standardized, industry-wide ethical principles that provide investment firms with guidance on how to calculate and report their investment results to prospective clients.”7

Other Standard-Setting Authorities

The Appraisal Foundation In 1987, The Appraisal Foundation was formed in response to the instability in the real estate and mortgage lending industries caused by the savings & loan crisis of the mid-1980s and the need for a uniform standard for valuation practitioners charged with valuing real estate assets held by federal agencies. Title XI of the Financial Institutions Recovery, Reform, and Enforcement Act of 1989 (FIRREA) enacted by Congress established the following requirement:

at a minimum - (1) that real estate appraisals be performed in accordance with generally accepted appraisal standards as evidenced by the appraisal standards promulgated by the Appraisal Standards Board of the Appraisal Foundation; and (2) that such appraisals shall be written appraisals.8

In January 1989, the Appraisal Standards Board approved and adopted the Uniform Standards of Professional Appraisal Practice (USPAP). The USPAP has evolved over the past 20 years to include Statements on Appraisal Standards and Advisory Opinions to assist practitioners and end users to interpret and apply the standards. As a result of its required use in federally related transactions, the USPAP have been adopted or are recommended standards to be followed by most professional valuation organizations. Specifically, USPAP Standards 9 & 10 relate to business appraisal development and reporting.

The Internal Revenue Service The Internal Revenue Service (IRS) released business valuation standards in 2006 to provide examiners specific guidance in the valuation of businesses, intangible property, tangible personal property, and real property. It is important for valuation practitioners to be familiar with these standards.

TheImportanceof Standards

Standards serve an important role in the practice of business valuation. Not only do standards provide structure and guidelines to the practitioner in the development and reporting of value, but standards also provide end users with a level of confidence that the valuation conclusion was developed using generally accepted and recognized approaches and methods by competent and ethical practitioners.

Although the requirements and backgrounds of credentialed valuation practitioners vary, efforts are being made in the industry to establish a common language and educational opportunities. The American Institute of Certified Public Accountants, American Society of Appraisers, National Association of Certified Valuation Analysts, The Canadian Institute of Chartered Business Valuators, and the Institute of Business Appraisers adopted The International Glossary of Business Valuation Terms to offer uniformity and consistency to valuation practitioners with differing affiliations. As further evidence of the cooperation among professional organizations, the FVS section of the AICPA has a strategic partnership with the American Society of Appraisers to explore joint educational, training, and technical-writing opportunities.9

Internationally, business valuation standards are being adopted as formerly North American professional organizations expand membership and form partnerships and alliances. The NACVA, for example, is a charter member of the International Association of Consultants, Valuators and Analysts (IACVA), which provides accreditation in business valuation. The ASA serves members in 40-plus countries including China, Japan, Argentina, and the Philippines.

As valuation issues gain more prominence in the public eye (for example, fair value accounting, mark to market, impact of current credit crisis on the value of businesses and business interests) and across the world, the more important uniformity of standards and certification become.

The volume of private companies that are owned today through hedge funds and private equity firms further underscores the need for some level of uniform valuation standards. The value of these investments is aggregated with other investments to determine the Net Asset value of these investment vehicles; to ensure that capital can be available to these industry participants there has to be some level of confidence in their financial statement reporting, which includes record keeping and reporting of their investments and related valuation.

Basic Reporting Standards

Although the approaches and methods used to value a business or business interest are similar across professional organizations, certain developmental and reporting requirements may differ. Notwithstanding these differences, which often tend to be subtle, any written report by an expert should include at least the following items:

• Client

• Subject or business interest being valued

• Valuation date

• Report date

• Type of report

• Standard of value

• Premise of value

• Purpose of the valuation

• Nature of the business being valued

• Sources of information disclosed

• Site visit or lack thereof disclosed

• Economic conditions, present and future outlook

• Past, current, and future prospects of the business and industry

• Financial analysis of future earnings/dividend capacity

• Past sale of interest in the business being appraised

• Ownership, size, nature, restrictions, and agreements

• Extent the interest has or lacks elements of marketability

• Valuation approaches and methods used

• Valuation approaches and methods considered

• Valuation approaches and methods rejected and rationale for rejection

• Conclusion of value

• Signature and name of primary appraiser

BUSINESS VALUATION PRACTITIONERSAND CERTIFICATIONS

Just as each business is unique, each bankruptcy case is unique and offers its own valuation challenges. A single case may require the valuation of a large number of individual subsidiary companies, substantial real estate holdings and securities, as well as hard assets such as machinery and equipment. As such, a single bankruptcy case may employ several different valuation practitioners: a business appraiser to value the operational business, a real estate appraiser to value the nonoperating property, and/or a machinery and tool appraiser to offer a potential liquidation value. Because this book focuses on business valuation, this chapter discusses business valuation practitioners rather than those who value real estate and other hard assets.

Credentialed Valuation Practitioners

Credentialed valuation professionals are those practitioners who have undergone training and/or have demonstrated experience prescribed by a professional organization. The following section gives a summary of the requirements to obtain the respective qualifications from each of the listed governing bodies involved in business valuation.

American Institute of Certified Public Accountants (AIPCA)

Certified Public Accountant (CPA)

• Holds a valid and unrevoked CPA certificate issued by a legally constituted state authority (requirements differ by state or other issuing authority)

• Passed the Uniform CPA Examination

• Completed 150 semester hours of education at an accredited college or university earning a Bachelor’s degree or equivalent

• Completed 120 hours of required continuing education, or equivalent, in each three-year reporting period

Accredited in Business Valuation (ABV)

• Member of the AICPA in good standing

• Holds a valid CPA certificate

• Successfully completed the eight-hour ABV Examination, the four-hour ABV I Examination for those holding an AM, CBA, CFA, or CVA designation, or holds the ASA credential

• Met business or full-time teaching experience requirements in specified areas of practice as measured by number of engagements and/or hours worked (a minimum of six engagements or 150 hours of substantial business valuation experience are required)

• Met Lifelong Learning requirements as measured by continuing professional education credits, university/college coursework, attendance at business valuation trade conferences, presentations, lecturing, and authoring (a minimum of 45 qualifying hours are required)

• Continue, to obtain 60 hours of Lifelong Learning in each three-year recertification period

American Society of Appraisers (ASA)

Accredited Member (AM)

• Member of the ASA in good standing

• Successfully completed 4 three-day courses, 3 half-day exams, and a one-day exam, or successfully completed a one-day challenge exam (certain business course prerequisites apply)

• Successfully completed the ethics and USPAP (Uniform Standards of Professional Appraisal Practice) exams

• Submitted an appraisal report satisfying the requirements of the Board of Examiners

• Possesses two years’ full-time or equivalent experience in business appraisal (one year experience is granted to professionals holding a CPA, CFA, or Certified Business Intermediary (CBI) designation with five years of practice in that field)

• Holds a college degree or equivalent

• Continues to obtain 100 hours of continuing education (40 hours minimum) and organizational participation in each five-year reaccreditation period

Accredited Senior Appraiser (ASA)

• Met all of the requirements for the AM designation and a total of at least five years’ full-time or equivalent experience in business appraisal

College of Fellows of the American Society of Appraisers (FASA)

• Met all of the requirements for the ASA designation and voted into the College of Fellows based on technical leadership and professional contributions

Institute of Business Appraisers (IBA)

Certified Business Appraiser (CBA)

• Member of the IBA in good standing

• Successful completion of 90 classroom hours of upper-level course work or 10,000 hours’ active experience as a business appraiser

• Successful completion of a 16-hour report-writing course

• Successful completion of a six-hour written exam or holds a ASA, ABV, CVA, or AVA designation

• Submission of two business-appraisal reports demonstrating professional level of competence

• Continues to obtain 24 hours of continuing education for reaccreditation every two years, or accredited by IBA (AIBA)

• Successfully completed an eight-day workshop (course work may be substituted for journeyman level designation in business valuation from organizations recognized by the IBA) and a 16-hour report writing course

• Successfully completed written exam and submited one demonstrative report

Master Certified Business Appraiser (MCBA)

• Met all of the requirements of the CBA designation and held the CBA designation for at least 10 years

• Has 15 years of full-time business appraisal experience

• Holds a professional designation such as an ASA, CVA, or ABV

• Possesses a two-year postgraduate degree

The Canadian Institute of Chartered Business Valuators (CICBV)

Chartered Business Valuator (CBV)

• Member of the CICBV

• Successfully completed six distance education courses (approximately 60 hours) and exams (certain exemptions to coursework are allowed for professionals holding an ASA or CFA designation)

• Successfully completed a four-hour membership entrance examination

• Possesses suitable practical experience in business and securities valuation (1,500 hours total) attested to by a sponsoring CICBV member

National Association of Certified Valuation Analysts (NACVA)

Certified Valuation Analyst (CVA)

• Member of the NACVA in good standing

• Holds a valid and unrevoked CPA license issued by a legally constituted state authority or the Chartered Accountant designation as issued in Canada

• Possesses two years of work experience other than in business valuation—no experience necessary in business valuation

• Successfully completed training, exam, continuing education requirements listed for the AVA designation that follows

Accredited Valuation Analyst (AVA)

• Member of the NACVA in good standing

• Successfully completed a five-day training program or holds a business valuation designation from another business valuation credentialing body

• Successfully completed a five-hour proctored exam and submitted either a take-home case study (40-60 hours) or a client business valuation report (case study may be substituted for a client business valuation report only if the applicant has more than 10,000 hours or more experience in business valuation) meeting the requirements of the NACVA’s Valuation Credentialing Board

• Possesses two years of substantial work experience in business valuation or performed 10 or more business valuations

• Possesses a business degree and/or MBA or higher business degree from an accredited college or university

• Continues to obtain continuing education (36 hours), work experience, and professional development for recertification every three years

Association of Insolvency & Restructuring Advisors (AIRA)

Certified Insolvency & Restructuring Advisor (CIRA)

• Member of the AIRA in good standing

• Holder of a CPA, CA, or CMA license or a Bachelor’s degree

• Possesses 4,000 hours of specialized business turnaround, restructuring and bankruptcy experience

• Completed five years of accounting or financial experience

• Successfully completed three 20-hour courses and a four-hour exam • Possesses a Bachelor’s degree

• Continues to obtain 60 hours of related continuing education in each three-year period of which at least 20 hours must be completed in non-employer-related educational programs

Certification in Distressed Business Valuation (CDBV)

• Member of the AIRA in good standing

• Successfully completed three multiday courses and related exams (certain coursework waived for holders of the Certified Insolvency & Restructuring Advisor (CIRA), ASA, CBA, CFA, ABV, CVA, or AVA designations)

• Demonstrated significant experience with valuation of companies and/ or assets in bankruptcy and other distressed situations

• Completed five years of accounting or financial experience

• Possesses a Bachelor’s degree

CFA Institute

Chartered Financial Analyst (CFA)

• Member of the CFA Institute in good standing

• Successfully completed the Level I, II, and III exams sequentially (minimum preparation of 250 hours of study per exam)

• Possesses a Bachelor’s degree or equivalent, is in the final year of Bachelor’s degree program, or completed four years of qualified professional work experience

• Although not required, the CFA Institute recommends 20 hours of continuing education each year

It is important to note that several appraisal organizations waive certain educational or training requirements for certification if a candidate currently holds a business valuation designation. These waivers recognize the similarity in training and experience requirements across organizations.

Other Valuation Practitioners

Although credentialed valuation professionals are more commonly associated with business valuation, there are others who, because of expertise and experience in the structure and negotiation of business transactions or the enforcement of government regulations and policies, may also value businesses or business assets. Although some of these practitioners may also hold valuation credentials, the primary focus of their work may differ from business appraisers. These individuals include:

• Business brokers

• Investment bankers

• Hedge fund managers

• Venture capital and private equity investors

• Various government agencies

• Internal Revenue Service

• Securities and Exchange Commission

• Department of Labor

• Employee Benefits Security Administration

In some cases in which the business in question is either a large public company or a public company that has gone through a significant number of corporate transactions prior to bankruptcy, it is more typical to find an investment banking professional offering valuation opinions than a CPA.

CONCLUSION

This chapter is evidence of the volume of work that the finance, accounting, and valuation profession has undertaken in the form of self-governance and education. The profession’s actions improve the reliability and credibility of the valuation opinions developed for any purpose, including bankruptcy matters. Notwithstanding these professional advancements, there is no substitution for logic, sound thinking, and an independent mindset. In fact this is evident in bankruptcy courts around the country where the standard that matters most is the opinion of the trier of fact, the judge behind the bench.

NOTES

1www.aicpa.org/AbouttheAICPA/UnderstandingtheOrganization/MembershipFigures.htm. Includes Retired, Associate, Student Affiliate and International Members.

2 See Section 8.3.

3www.oldappraisers.org/about/index.cfm.

4 ASA Business Valuation Standards, General Preamble, American Society of Appraisers, 2008.

5 ASA Business Valuation Standards, General Preamble, American Society of Appraisers, 2008.

6www.go-iba.org/.

7 CFA Institute website, www.cfainstitute.org/centre/codes/gips/index.html.

8 Sec. 1110, Functions of the Federal Financial Institutions Regulatory Agencies Relating to Appraisal Standards [12 U.S.C. 3339].

9http://fvs.aicpa.org/Memberships/OverviewofBVFLSSectionBenefitsforProspectiveMembers.htm.

CHAPTER 3

The Basics of Business Valuation

THE PURPOSE OF THE VALUATION

Any discussion of business valuation begins with one basic question: “What is the purpose of the valuation?” Valuations are required for countless reasons and from different perspectives in the business world as they provide interested parties, including the courts, with valuable information necessary to the decision-making process. For example, a lender may require a valuation of a business to support loan-underwriting decisions, whereas the owner-manager of a business may require a valuation for tax and estate planning purposes. Some other instances in which a business valuation would be required are

• Reorganizations and recapitalizations

• Due diligence related to acquisitions and divestitures

• Litigation support in which the value of a business or business interest is in dispute, such as buy/sell or partnership disputes

As discussed in more detail in this book, although the basic financial and valuation analyses remain the same, business valuations performed in the context of a bankruptcy or reorganization come with a unique set of challenges. For the most part, courts direct valuation professionals to use the same valuation approaches and methods they use in other contexts. As will be seen in Chapter 8, however, sometimes a bankruptcy court has suggested methods or particular applications of the methods that are unique to the particular case or the requirements of bankruptcy law.

That said, the bankruptcy process is a fluid one with substantial interaction and negotiation between the parties; therefore, although decisions are based upon information provided by the valuation, the resulting outcome may not be driven solely by the valuation conclusions of the experts retained by the interested parties.

Value often differs depending on the purpose, standard of value, and key assumptions. For example, the value of a business unit on a standalone basis could be different than the value of a business unit included as part of the overall corporation. The difference may be a result of several factors, such as the ultimate cash flows being valued. As a standalone entity a business unit may not receive the benefit of certain shared expenses with the parent such that cash flows could be lower. There could also be higher perceived risk to the operation of a business unit on a standalone basis, which would drive the value lower. Or, there could be other sales and operating synergies that are not available to the standalone business unit that could be obtained while part of the larger entity.

Just as in the preceding example, valuations in the bankruptcy context may differ depending on the specific situation, purpose of the valuation, and even the timing of the valuation during the bankruptcy case.

STANDARD OF VALUE

It is important to define the standard of value and key assumptions to be used in the valuation of a business or business interest. One of the most common standards of value is fair market value. Fair market value is generally defined as the cash amount at which the business or business interest would change hands between a hypothetical willing buyer and a hypothetical willing seller when the buyer is not under compulsion to buy and the seller is not under compulsion to sell and with both parties having reasonable knowledge of relevant information and facts.1

This definition, however, would not apply in the valuation of a business by parties contemplating a specific transaction. In this case, the buyer and seller are known, and one or the other may, in fact, be under compulsion to ensure the transaction is completed, particularly if the business is in distress. In this situation, the more appropriate standard of value may be investment value. Investment value is the value of the business or business interest to a specific investor. Because the investor is known, this standard of value takes into consideration his or her expectations of future cash flows that could be generated by the business, synergies, and other factors specific to the investor. Investment value may or may not be the price paid to acquire the business or business interest.

Fair value is another standard of value used in valuation. Fair value is typically used in the valuation of businesses and business interests in a legal context and, therefore, the definition will be different based upon applicable state statutes and case law (generally, the term fair value in this context does not carry the same definition as used in public accounting). Fair value may be equal to the interest holder’s pro-rata share of the business being valued without the application of discounts for minority interest and/or lack of marketability, and may include a pro-rata share of the value of the control premium.2 In some instances, case law may even suggest the valuation approach to be used in determining fair value. Therefore, it is important to obtain legal advice when conducting a valuation using this standard of value. For example, the standard of value of a shareholder’s interest in a shareholder oppression remedy matter may be fair value, whereas the standard of value of the same interest under a con-sensual transaction would typically be fair market value. Fair market value in the shareholder oppression remedy matter would not be appropriate because the discounts applied to the individual’s interest would reward the oppressor. For example, a company wants to enter into a merger agreement whereby the interest holders would receive their pro-rata share of the proceeds. For a variety of reasons a group of minority shareholders disagree with the merger and are forced out. If the courts allowed the buy-back of the minority interests at a reduced price (through the application of minority discounts, for example), the company/majority shareholders would reap the benefit of the ownership of those shares in the merger transaction and the resulting payout without penalty for their actions. Not only would the minority interest holders be forced out and unable to participate in any upside, but they would also be penalized by having to redeem the shares for a discounted price.

Section 506 of the Bankruptcy Code, U.S.C. §506, provides that “value shall be determined in light of the purpose of the valuation and of the proposed disposition or use of such property, and in conjunction with any hearing on such disposition or use or on a plan affecting such creditor’s interest.” Thus, valuation bankruptcy is not fixed or static.

PREMISE OF VALUE—GOING CONCERNOR LIQUIDATION

The premise of value is as important as the standard of value and its selection will drive most of the detailed analysis thereafter. The premise of value is the overriding valuation assumption about the likely set of circumstances that apply to the subject company being valued. For example, are market conditions such that the most likely future circumstance for a business is liquidation, or do market conditions exist that a business can be considered a going concern? Therefore, the two primary premises of value are going-concern value and liquidation value.

In determining which premise of value is more appropriate, the valuation analyst typically considers the following:

• The market conditions and outlook for a business segment, industry, or economy as a whole

• The competitive environment for a business and industry

• The financial history of the company

• The historical operations of the company

• Management’s track record

• The ability of a business to secure adequate capital to move forward as an ongoing entity