When it comes to valuing companies and issuing fairness opinions, whether in the public or private domain, increased scrutiny is forcing independent experts to seek greater robustness.
In a market where the transactions increasingly include complex financial instruments, directors face greater challenges and more scrutiny from shareholders, investors and the public. This means that Boards must take care when assessing transactions and communicating the results to relevant parties.
This increase in pressure has led many companies to look to independent valuation experts to fully understand, measure and communicate the potential outcome of a transaction. Is the Board overpaying? Is the target valued correctly from a technical perspective? What are the tax implications? What are the value implications of the share incentive schemes?
The level of analysis requisite for these transactions must be technically correct. In addition, even though viewed as fair, these deals may be later judged to have rendered the company insolvent and the Board could be found liable for its actions.
The practice of retaining an independent valuation expert, whether required by regulators or not, is an additional level of protection for directors during a transaction. In general, the three steps of the opinion remain the same. Firstly, determine the value of the company shareholders’ interest in exchange for the received consideration, then review and understand relevant issues regarding the transaction’s fairness and then present to the Board regarding the fairness of the transaction from a financial perspective. Educating management and the Board on methodologies and market norms is perhaps the biggest change.
In the M&A boom cycles of the late ’80s and mid ’90s, many deals were affected by relatively little control over what Boards and management did in terms of valuing companies. Corporate leaders took significant advantage of this situation. However, in the post-Enron and post-credit crisis environment, which has resulted in greater scrutiny, there is no tolerance for surprises. That sentiment has filtered into a greater need for valuation advice and specialist support during transactions.
Valuation methodologies have not fundamentally changed, but the pressure of real or perceived conflict of interest for both management and Boards has. Companies need to recognise the legal risks associated with possible breach of fiduciary responsibility to their shareholders. Therefore, advisers and directors face greater pressure to ensure that the independent expert they select is truly independent, competent and qualified.
Today’s corporate governance drives for greater disclosures and, in turn, makes Boards more accountable in understanding and explaining the value implications of a transaction to third parties. The potential to ‘unwind’ the deal has never been greater. This risk may be from minority shareholders, competing bidders or other management. Ultimately, the independent fairness opinion acts as an insurance policy for the benefit of shareholders, Boards of Directors and the company.