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A Reviewer's Handbook to Business Valuation: Practical Guidance to the Use and Abuse of a Business Appraisal

Book Description

Thorough guidance and detailed analysis of the valuation business engagement

Discussing the practical aspects of business valuation that arise in the context of a tax valuation, this book provides you with detailed analysis of the valuation business engagement process. Detailed discussion is included of various cases outlining errors that appraisers have made in appraisal reports, as well as in-depth discussion of the current appraisal industry issues that are impacting tax valuations.

  • Examines concepts and topics including level of value, the role of estate planners in the business valuation process, the use of appraisers in estate planning and litigation, and the appraiser identification/selection process

  • Provides insight into the nature of the major appraisal trade associations

  • Offers insights into preventing errors from getting into appraisal reports

This helpful guide provides you with the detailed discussion you need on the various business valuation standards that have been promulgated by the Appraisal Standards Board as well as several appraisal trade associations.

Table of Contents

  1. Cover
  2. Title Page
  3. Copyright
  4. Dedication
  5. Foreword
  6. Preface
    1. Highlights of This Book
    2. Who Should Read This Book?
    3. About the Book
  7. Acknowledgments
  8. Part I: Foundations: Valuing a Business
    1. Chapter 1: Fundamental Concepts for Defining Value
      1. Standard of Value
      2. Level of Value
      3. Premise of Value
      4. Conclusion
    2. Chapter 2: Defining the Engagement
      1. The Importance of Defining the Engagement
      2. Defining the Client
      3. The First Call
      4. The Subject Entity and Entity Type
      5. Entity Distinctions and Entity Significance in the Valuation
      6. State of Entity Organization or Incorporation
      7. Principal Business Location
      8. Description of the Subject Interest
      9. Purpose and Intended Use of the Valuation
      10. Date of the Valuation
      11. Scope of the Work Product
      12. Summary Assignment Definition Table
      13. The As-Of Date of the Appraisal and the Date of the Appraisal Report—Added Thoughts and Perspective
      14. Conclusion
    3. Chapter 3: Information Collection and Due Diligence
      1. Importance of the Information Collection and Due Diligence Phase
      2. Industry and Economic Considerations
      3. Financial Information and Analysis
      4. The Management Interview
      5. Preparation
      6. Agenda of a Typical Management Interview
      7. Conclusion
    4. Chapter 4: An Overview of Valuation Approaches
      1. Recognized Valuation Approaches
      2. Methodology and Level of Value, Direct and Indirect Methodology
    5. Chapter 5: Valuation Approaches: The Cost Approach
      1. The Cost Approach
      2. Typical Adjustments in the Cost Approach (Using Tangible Net Asset Value Methods)
      3. To Tax Affect or Not
    6. Chapter 6: The Income Approach to Value
      1. Direct Capitalization and Discrete Projection Methods
      2. Reconciliation of Income Methods to Market Methods
      3. Typical Adjustments to the Income Statement
      4. Adjustments That Correspond to Balance Sheet Treatments
      5. Reconciling or Reclassifying Interim-Period Measures to Fiscal-Period Measures
      6. Income Statement Adjustments and Considerations
      7. Matching the Cost of Capital to the Benefit Stream
      8. Developing the Cost of Capital
      9. Summary Examples of Developing the Cost of Equity Capital
      10. Growth Rate of Earnings/Net Cash Flow
      11. Finishing the Direct Capitalization Equation
      12. Developing the Single-Period Benefit (Ongoing Earnings and Ongoing Net Cash Flow) and Preparation for the Discounted Future Benefits Method
      13. Example of a Single-Period Capitalization to Derive the Market Value of Total Invested Capital
      14. The Discounted Future Benefits Method (DFB)
      15. Conclusion
    7. Chapter 7: The Market Approach
      1. Valuation Methods under the Market Approach
      2. Rules of Thumb
      3. Transactions Method
      4. Guideline Public Company Method
      5. The Fundamental Adjustment
      6. Guideline Transactions Method
    8. Chapter 8: Correlation of Value
      1. Global Considerations in the Correlation Process
      2. Examples of Correlating a Value Indication
      3. Conclusion
    9. Chapter 9: Valuation Discounts and Premiums
      1. The Levels of Value Revisited
      2. Perspective on the Control Premium
      3. Control Premiums—Substance Over Form
      4. Perspective on the Minority Interest Discount
      5. Marketability Discounts
      6. Conclusion
  9. Part II: Business Valuation Standards
    1. Chapter 10: Uniform Standards of Professional Appraisal Practice (USPAP)
      1. Overview of USPAP Valuation Standards
      3. 2010–11 USPAP Competency Rule
      4. 2010–11 USPAP Scope of Work Rule
      5. 2010–11 USPAP Jurisdictional Exception Rule
      6. USPAP Business Appraisal Review (USPAP Standard 3)
      7. Business Appraisal Development: USPAP Standard 9
      8. Business Appraisal Report Standards USPAP Standard 10
      9. USPAP Certification Requirement
      10. USPAP Statements on Appraisal Standards and Advisory Opinions
    2. Chapter 11: American Society of Appraisers (ASA)
      1. ASA BVS General Preamble
      2. ASA BVS-I (General Requirements for Developing a Business Valuation)
      3. ASA BVS-II (Financial Statement Adjustments)
      4. ASA BVS-III (Asset-Based Approach to Business Valuation)
      5. ASA BVS-IV (Income Approach to Business Valuation)
      6. ASA BVS-V (Market Approach to Business Valuation)
      7. ASA BVS-VI (Reaching a Conclusion of Value)
      8. ASA BVS-VII (Valuation Discounts and Premiums)
      9. ASA BVS-VIII (Comprehensive Written Business Valuation Report)
      10. ASA BVS-IX (Intangible Asset Valuation)
      11. ASA SBVS-1 (Guideline Public Company Method)
      12. ASA SBVS-2 (Merger and Acquisition Method)
      13. PG-1 (Litigation Support: Role of the Independent Financial Expert)
      14. PG-2 (Valuation of Partial Ownership Interests)
    3. Chapter 12: The American Institute of Certified Public Accountants (AICPA) Statement on Standards for Valuation Services
      1. Introduction and Scope
      2. Overall Engagement Considerations
      3. Development
      4. Valuation Approaches and Methods
      5. Detailed Report
      6. Summary Report
      7. Calculation Report
      8. Oral Report
    4. Chapter 13: National Association of Certified Valuation Analysts (NACVA) Professional Standards
      1. Preamble—General and Ethical Standards
      2. Valuation Services
      3. Development Standards
      4. Reporting Standards
      5. Miscellany
    5. Chapter 14: The Institute of Business Appraisers (IBA) Business Appraisal Standards
      1. Standard One: Professional Conduct and Ethics
      2. Standard Two: Oral Appraisal Reports
      3. Standard Three: Expert Testimony
      4. Standard Four: Letter Form Written Appraisal Reports
      5. Standard Five: Formal Written Appraisal Reports
      6. Preliminary Reports
    6. Chapter 15: Canadian Institute of Chartered Business Valuators Practice Standards
      1. Practice Standard 110—Valuation Reports
      2. Practice Standard 120—Scope of Work
      3. Practice Standard 130—File Documentation
      4. Practice Standard 210—Advisory Reports
      5. Practice Standard 220—Scope of Work for Advisory Reports
      6. Practice Standard 230—File Documentation for Advisory Reports
      7. Practice Standard 310—Expert Reports
      8. Practice Standard 320—Scope of Work for Expert Reports
      9. Practice Standard 330—File Documentation Standards in Expert Reports
      10. Practice Standard 410—Limited Critique Reports
      11. Practice Standard 420—Scope of Work for Limited Critique Reports
      12. Practice Standard 430—File Documentation Standards for Limited Critique Reports
      13. Practice Bulletins
    7. Chapter 16: Internal Revenue Service (IRS) Business Valuation Standards
      1. IRM—Introduction
      2. IRM 4.48.2—Development Guidelines
      3. IRM—Resolution Guidelines
      4. IRM—Reporting Guidelines
  10. Part III: Lessons From the Trenches
    1. Chapter 17: Alleged Errors of Omission by Appraisers
      1. Failure to Comply with USPAP
      2. Valuation Credentials
      3. Too Much Involvement by Counsel in the Appraisal Report Preparation
      4. Standard of Value
      5. Valuation Date
      6. The Subject Property Interest
      7. Bias
      8. Sources of Data
      9. Independence
      10. Pure Reliance on Case Law
      11. Site Visits and Management Interviews
      12. Failure to Provide Sufficient Explanation
      13. Disregard of Material Facts
      14. Failure to Find Available Information
      15. Failure to Adequately Support Selection of Beta
      16. Improper Sampling Techniques
      17. Off Financial Statement Items
      18. Failure to Sufficiently Explain Assumptions
      19. Insufficient Due Diligence
      20. Failure to Make Inquiries with Significant Third Parties
      21. Failure to List All Appraisers’ Qualifications
      22. Failure to Consider the Small-Stock Premium
      23. Failure to Factor in Income Tax
      24. Failure to Set Forth the Adjustments to Financial Statements in the Appraisal Report
      25. Failure to Produce a Replicatable Report
      26. Failure to Identify the Multiples Selected
      27. Failure to Discuss Weightings in the Appraisal Report
      28. Failure to Distinguish between Tax and Book Depreciation
      29. Failure to List Guideline Companies
      30. Failing to Separate Operating and Nonoperating Aspects of a Company
      31. Failing to Lay Foundation for Small Stock Premium
      32. Failing to Justify Capitalization or Discount Rates
      33. Failure to Think Like an Investor
      34. Failure to Define Capital Structure
      35. Failure to Adequately Consider the “Willing Buyer”
      36. Failure to Adequately Consider the Willing Seller
      37. Failure to Accurately Describe the Subject Property
      38. Failure to Properly Classify the Subject Company
      39. Failure to Explain the Basis for a Valuation Discount
      40. Failure to Properly Consider the Subject Company's Growth Rate
      41. Failure to Explain Market Multiples Selected for Guideline Companies
      42. Failure to Explain Equal Weighting of Conclusions of Value
      43. Failure to Consider Differences between the Subject Company and the Guideline Companies
      44. Failure to Utilize Data from a Guideline Company That the Appraiser's Own Summary Chart Reflects Is Closest to the Subject Company
      45. Failure to Explain the Selection of the Range of Performance Ratios Selected
      46. Failure to Adequately Explain Why Companies Selected as Guideline Companies Are in Fact Comparable to the Subject Company
      47. Failure to Explain Why So Few Comparable Properties or Guideline Companies Were Selected
    2. Chapter 18: Alleged Errors of Commission
      1. Retrospective Appraisals
      2. Use of Past Publications of an Appraiser against the Appraiser
      3. Using Untested Methodology
      4. Improper Reliance on a Draft Appraisal
      5. Conclusion of Value Offends Common Sense
      6. Mathematical Errors
      7. Inconsistency
      8. Double Counting
      9. Conflicting Conclusions of Value
      10. Sole Reliance on a Valuation Model
      11. Incorrect Usage of Discounted Cash Flow Method
      12. Skewed Assumptions
      13. Overemphasis on Buy-Sell Restrictions among Related Parties
      14. Using Historic Book Value of Assets in Net Asset Value Approach, Even Though Asset Appraisals Had Been Obtained
      15. Misapplication of Pre- and Post-Tax Figures
      16. Ignoring the Hypothetical Nature of the Willing Buyer or Willing Seller
      17. Inconsistent Use of Commercially Available Data
      18. Use of Commercially Available Data That Warns of Statistical Inaccuracy
      19. Misstatement of Methodology Employed by Appraisers on Whose Work the Appraiser Has Relied
      20. Undue Reliance on the Work of Another Appraiser
      21. Using a Valuation Method without Laying a Foundation That It Is a Legitimate Method (for Example, the Business Broker Method Using Data from the IBA Market Database)
      22. Improper Reliance on a Study That Does Not Completely Provide All Relevant Data
      23. Failure to Apply Discussion of Economic Factors to the Subject Company
      24. Using Commercially Available Data in a Manner Contrary to How the Data Source Says the Data Should Be Used
      25. Failure to Proofread Report Prior to Issuance
      26. Apparently Conflicting Assumptions Used for the Same General Purposes without Sufficient Explanation
      27. Use of Different Valuation Methods in Valuing the Same Interest in Valuation Reports Offered at Different Times without Adequate Explanation
      28. Making Improper Adjustments to Financial Statements
      29. Reliance on the Pre-IPO Studies and the Restricted Stock Studies to Determine the Discount for Lack of Marketability for a Controlling Interest
      30. Misreading or Failing to Properly Consider Revenue Ruling 59–60
      31. Failure to Accurately State the Number of Shares Outstanding in the Subject Company
      32. Inconsistency in Valuation Methodology Expressed in Testimony versus the Appraiser's Methodology as Expressed in Another Writing
      33. Unreasonably Low Projections
      34. Failure to Add Back Depreciation Included in Costs-of-Goods-Sold Computation in the Computation of EBDIT
      35. Combining the Discount for Lack of Control with the Discount for Lack of Marketability
      36. Utilizing an Assumed Income Tax Rate That Differed from the Actual Past Tax Rates of the Subject Company
      37. Disconnect between Assumption about When Revenues or Expenses Would Be Received or Incurred and When Those Items Were Actually Received or Incurred
      38. Error in Computing Terminal Value When Using the Income Approach
      39. Discounting an Income Stream Only at or Close to the Risk-Free Rate
      40. Modifying or Abandoning Positions Taken in the Written Appraisal Report during the Appraiser's Testimony
      41. Referring to a Standard Industrial Code in the Appraisal Report without Identifying That Number in the Report
      42. Relying upon Guideline Companies That Were Not Comparable to the Subject Company
      43. Preparing and Utilizing Earnings Projections That Vary Significantly from the Earnings Projections Prepared by the Subject Company
      44. Use of Only One Year's Worth of Guideline Company Data
      45. Inappropriate Employment of a Discount to Make a Conclusion of One Valuation Approach Appear More in Line with Another
      46. Failing to Properly Calculate a Valuation Discount
      47. Inappropriate Use of a Price-to-Asset Multiple Where the Difference between Book Value and Asset Fair Market Value Is Not Close
      48. Selection of Too Few Guideline Companies or Comparable Properties
      49. Selection of Too Few Performance Measures in the Guideline Company Method
      50. Cherry Picking Valuation Multiples
      51. Using an Inexcusably Old Comparable Sale
      52. Inappropriate Reliance on Governance Document Restrictions in Establishment of Valuation Multiples
      53. Stating the Wrong Date from a Comparable Sale
      54. Mismatching the Valuation Dates of the Guideline Companies and the Subject Company in Computing Price Multiples
      55. Defining “Guideline Company” Too Narrowly
    3. Chapter 19: Ten Burning Issues within the Appraisal Profession
      1. Issue 1: Methods of Determining the Discount for Lack of Marketability
      2. Issue 2: Applicability of Discount for Lack of Marketability to a Controlling Interest
      3. Issue 3: Validity of Discount for Imbedded Capital Gains
      4. Issue 4: Shift of “Comparability” from the Publicly Traded Arena to the Private Arena
      5. Issue 5: Efficient Market Hypothesis and Exceptions (For Example, Small-Firm Effect)
      6. Issue 6: Value of Control versus Value of Synergy
      7. Issue 7: Do Public Company Stock Prices Indicate a Marketable, Minority or a Marketable, Control Position?
      8. ISSUE 8: S Corporation Tax-Affecting
      9. Issue 9: Factoring Financial Statement Adjustments When Estimating the Value of a Noncontrolling Interest
      10. Issue 10: Validity of the Capital Asset Pricing Model for Valuing Interests in Closely Held Businesses
      11. Conclusion
    4. Chapter 20: Random Practical Valuation Tips and Thoughts
      1. Discovery and Privileges
      2. Attorney-Client Privilege
      3. Attorney Work Product Privilege
      4. Tax Practitioner Privilege
      5. A Free Standing, Complete Report, or a Mere Letter or Restricted Use Appraisal Report?
      6. Those Business Appraisers Must Be Identified in Time
      7. Should a Business Appraiser Always Follow USPAP?
      8. How Much Input Can a Client's Advisor Have in the Preparation of a Business Appraisal Report?
      9. Types of Appraisers; Appraisal Associations
      10. Random Strategy Tips
  11. Appendix A: Appraisal Standards Chart
  12. Appendix B: Information Request List
  13. Appendix C: Management Interview Checklist
  14. Appendix D: Sample Engagement Letter
  15. Glossary
  16. Bibliography
  17. Business Valuation Texts
  18. Business Valuation Journals and Newsletters
  19. Cost of Capital
  20. Equity Risk Premiums
  21. Articles
  22. About the Authors
  23. About the Web Site
  24. Index