Achieving the Right Valuation: Key Factors for a Smooth Business Transaction

Acquiring a new company or selling your existing one can be an exciting journey. It offers you opportunities for long-term growth or shareholder liquidity. However, as a buyer or seller, you must navigate unique responsibilities to minimize litigation risks and ensure accounting compliance, whether you’re managing a public or private company. Valuation tools, including fairness opinions, purchase price allocations (PPAs), and equity compensation valuations, are essential for ensuring compliance and reducing risks throughout the transaction process.

Fairness Opinions: Your Key to Risk Management

Fairness opinions are independent evaluations performed by third-party appraisers to assess whether the transaction price is fair. These opinions help you and your board meet fiduciary responsibilities by providing expert insights to support informed decisions.

When you obtain a fairness opinion, you can demonstrate due diligence and protect yourself against shareholder lawsuits. The purpose of fairness opinions differs between public and private companies, reflecting varying stakeholder needs and regulatory requirements.

Let’s explore how they can help you mitigate risks in these contexts.

Public Companies: Mitigating Shareholder Risks

If you manage a public company, you face additional responsibilities due to your diverse shareholder base and strict reporting requirements under FASB and SEC guidelines. Here’s how fairness opinions help you manage these challenges:

• Shareholder Approval: For acquisitions requiring shareholder approval, fairness opinions provide defensible evidence of your board’s due diligence, helping to minimize the risk of class-action lawsuits.
• Rollover Equity Risk: If your transaction involves accepting acquirer equity, a fairness opinion ensures you are properly evaluating and understanding the value of the offer.
• Multiple Offers: When you’re considering multiple offers, especially those with non-cash components, fairness opinions help you make recommendations aligned with shareholder interests.
• Hostile Takeovers: In the event of an unsolicited offer exceeding your company’s market value, fairness opinions strengthen your board’s position to reject the bid while protecting against legal challenges.

Fairness opinions are typically obtained after final negotiations but before your board makes recommendations to shareholders. This ensures every aspect of the transaction is analyzed thoroughly.

Private Companies: Avoiding Conflicts of Interest

As the leader of a private company, you may face unique risks where fairness opinions can provide critical support:

• Insider-led Buyouts: If your transaction involves management, board members, or controlling shareholders, fairness opinions help address potential conflicts of interest and ensure equitable treatment for all shareholders. California law requires fairness opinions for insider-led buyouts involving companies with more than 100 shareholders, but they’re advisable in any such scenario.
• Limited Representation: If your company lacks external advisors, fairness opinions assure that your board is acting in the best interests of all shareholders, reducing the risk of legal challenges.

Obtaining a fairness opinion during these transactions safeguards your interests and provides a defensible basis for your decisions.

Understanding Purchase Price Allocation (PPA)

A purchase price allocation (PPA) divides the price you pay (or receive) for a company among its tangible and intangible assets. The remaining value is recorded as goodwill.

• If You’re the Buyer: You’ll need a PPA to document how the transaction affects your balance sheet, including valuations for any rollover equity or contingent considerations.
• If You’re the Seller: You’ll require a PPA for tax purposes and can often rely on the buyer’s allocation for your Form 8594.

PPAs should be prepared shortly after the close date to prevent audit risk.

Private companies can simplify their PPAs by electing ASU 2014-18, which allows customer-related and non-compete assets to be absorbed into goodwill. Unaudited companies can often avoid a PPA for financial reporting altogether.

Navigating ASC-718 Stock Compensation

In some transactions, the classification of equity payments may differ from your intent. For instance, if equity issued to sellers depends on their continued employment, it may be classified as stock compensation under ASC-718 rather than as part of the purchase price.

Here’s what you need to know:

• Separate Valuation: You’ll need a third-party appraisal to calculate the fair value of stock compensation, independent of the PPA process.
• Financial Reporting: Stock compensation is reported as an expense, which impacts your income statement and overall profitability.

By ensuring compliance with ASC-718, you avoid audit risks and maintain transparency for stakeholders.

SPAC Transactions and Regulatory Updates

If you’re involved in a SPAC transaction, fairness opinions can help mitigate risks. While the SEC recently declined to mandate fairness opinions for de-SPAC transactions, obtaining one remains a best practice to protect against shareholder disputes.

***

Whether you’re buying or selling, your transaction’s success depends on careful planning and execution. Tools like fairness opinions, purchase price allocations, and stock compensation valuations are essential to ensure compliance and minimize risks. By addressing these factors, you can move forward with confidence and achieve the best possible outcomes for your company and its stakeholders.