Navigating Intangible Asset Valuation

I'm Kisam Patel and you're listening to.

M and A Science, where we talk with deal professionals and learn valuable lessons from their experience. This podcast focuses on stories, strategies and what actually happened during M and A deals.

Before we get started today, I want to let you know I recently published a book called Agile M and A. We all know the M and A process is highly inefficient and and there's no real standard or evidence based approach to completing M and A deals. Agile M and A is a project management framework that emphasizes responding to changes, collaboration and continuous improvement. This means your team will improve identifying risks and opportunities during diligence as well as planning and executing integration so you can actually deliver on predicted value drivers. Get your copy of Agile M and A on Amazon or any major bookstore. Learn more@agilema.com hi.

Today I'm here with co CEO and senior managing director at Valuation Research Corporation, PJ Patel. PJ leads VRC's financial reporting practice and is a frequent presenter on valuation issues. He recently spoke at the Financial Accounting Standards Board Roundtable to discuss how goodwill is valued. He's often quoted in the press regarding valuation issues. Today we're going to talk about strategies to avoid issues with intangible asset valuation. How are you doing today Vijay?

Good. Kissan. How are you doing?

Doing great, maybe. If you just want to kick off with a brief introduction on yourself.

Sure. As mentioned, I'm co CEO of Valuation Research Corp. We're an independent valuation firm. I spend a lot of time speaking with companies clients, presenting on valuation issues around financial reporting and tax, work on a lot of deals, get to see a lot of different structures and it's a big part of what we do.

So let me start off by asking, how do you see the current M and A client affecting valuation?

Well, it's really a strong market, as you probably know.

I mean, multiples are increasing, there's a lot of competition for good companies. We're seeing some companies that were previously.

Owned by, let's say a private equity firm four or five years ago being reacquired by that same PE firm. And so it's really a strong market, strong valuation in many ways a seller's market.

Yeah, that's definitely true. I know your firm works on quite a few deals, about 5, 600 a year domestically. Can you talk about maybe some of the trends you're seeing in structures?

Yeah, from a structure standpoint, what we're seeing is, again, to the point I made earlier, it's a strong market and so often there's a gap between buyer and seller and the seller has strong.

Expectations for the future.

Buyers aren't quite sure they can get there. We really see a lot of earn outs, especially in the middle market deals and lower middle market deals. That's a pretty common structure. We're also seeing is companies really looking to figure out a way to keep some skin in the game in the past where you might have seen a full acquisition, 100% acquisition, whether it's a public company or a private equity firm these days keeping a little bit of skin in the game to capitalize on the upside. So those are probably the two most common things that we're seeing sort of over the last six months or year.

Got it. So you're seeing more sort of similar structures that we previously saw, but more of it the earn outs and just doing partial sales as opposed to entire sales.

Exactly, yeah.

What do you think is going to happen long term? Because it is a very active market. Valuation numbers are up there for a lot of companies because I hear investors complain about them. You think it's something that's going to hold up or you think what are some of the repercussions on these deals if they don't get their anticipated value out of them?

Yeah, it's really difficult to say and unfortunately my crystal ball is not that good. We're seeing though is similar to what we saw in the late 90s and.

Also 2005 to 2007 time period.

But on the other hand, what I would say is that there's lots of dry powder out there. You know, share prices for public companies are, generally speaking, really high, given where the Dow and The S&P 500 are at these days, where the NASDAQ is at. And so there's a lot of reasons.

Why values could potentially stay high and multiples could stay high.

But it is getting tougher and tougher.

To justify from a fundamental perspective. And just simply looking at cash flows.

And the models that we get to see are getting probably a little bit more optimistic. A lot of synergies being built in and things of that sort and companies.

Paying up for those synergies at the time of acquisition as opposed to probability adjusting those synergies over time.

I would have to agree with you on all those points. The potential for a similar relapse, except the variable change is that we have so much money in the market that we previously didn't have.

Yeah, that's right.

I mean, it just seems like all the PE firms that we chat with have a lot of dry Powder.

And I think also when you see the markets at the level that they're.

At, it gives in multiples where they're at. You know, I think the public companies feel more confident about doing deals and private equity also thinks, well, you know, the potential exit price will also be strong.

So lots of reasons why I think.

We'Ll continue to see deals continue at the rate that we have been over the last couple of years.

Shall be interesting. What are some of the most common valuation issues you're seeing in MA transaction?

Do you mean from the standpoint of issues that we see as part of the deal making process?

Yeah, I would start with that. I think that's probably what you come up across the most.

Yeah, I think there's a number of.

Items that we see. Number one is how competitive the environment is. It's pretty rare to see proprietary deal, whether you're talking about PE or public companies. I think when you have that sort of environment, everybody knows they need to put their best foot forward in terms of doing the deal and the price that they're willing than to pay.

Just from a technical standpoint, we do.

See from time to time errors in the deal model. And I think it can be math.

But I think on one hand many companies kind of look at it like.

What are we paying?

What's the multiple we're paying?

And building out the forecast from there.

Other things just with high prices you have impairment issues.

As you move forward, that cushion that maybe was historically there between what you paid and maybe what the value was to you is shrinking. And when companies do deals today, there's not a whole lot of cushion, not a whole lot of margin for error.

Those are really good points, I guess beyond just purely looking at transactional MA valuation, what other types of valuation issues would come up outside of transactionally speaking?

The vast majority of what we're doing.

Is working on deals, so it's deal related.

But maybe outside of that, some of.

The issues that we see coming up are maybe on the tax side. You know, with all the changes domestically with tax reform here in the us but also the implications of that globally. We're seeing tax jurisdictions around the world becoming more and more aggressive in how they tax companies and how they look at IP also even how you value stock compensation. We've seen a number of situations over the last few years where outside of the U.S. canada, Australia and other places have become more aggressive in how they maybe attack the tax structures that are in place or even the equity compensation, the stock compensation that's being given to.

Management regarding goodwill impairments, how do they reveal the quality of management?

What we see is a pretty typical pattern. At the time of the acquisition, everybody's.

Happy, they won, they did the deal.

And you get about six months in and you kind of go, oh, this.

Is not quite what I thought. The company is not in exactly the.

Same spot that I was thinking as we were going through due diligence and we have a little bit of work to do, and the work starts about.

Six months in, at least the heavy lifting, I would say, and it continues.

For a couple of years.

What we see is typically at the end of that is most companies get through, they don't have an impairment.

There's maybe somewhere in the single digits.

Five, maybe as high as 10% of the companies do end up having an impairment.

But the pattern is pretty much similar. And, you know, within the first three years, maybe it's as long as the first five years, the acquisition and getting the synergies and sort of getting to the point where you feel like you've.

Got an asset that you've paid for.

Beyond the five years. We do see impairments from time to time, but it typically doesn't relate right.

Back to the acquisition model and the purchase price that was paid at the time of acquisition. It probably relates a little bit more to the next generation of products and management's ability to adapt to changes in the environment and the landscape and things of that sort.

When you're talking about goodwill impairment, zero to five years, it's all about the deal that was done beyond five years.

It's about management's ability to adjust and adapt over time.

Could you give a brief explanation of what goodwill impairments is for those that may not be familiar with it?

Yeah. The rules around it continue to change, you know, but in the simplest form, what I would say is it's basically the comparison of the carrying value of.

The company with the fair value.

And so if you do an acquisition, let's say for 100 million, that becomes its carrying value on day one. Basically, what you're doing is comparing the fair value of the company with its carrying value.

By definition, on day one, the two are equal to each other.

You fast forward a year and you're going to have some amortization of assets, your tangible assets, your intangible assets. So, yeah, a year from now, the carrying value may be, let's say, 95, but the fair value may be. It may be 100, it may be 110. It may also be 90. Now, in the situation where it's 90 and the carrying value is 95.

The difference between the two would be your impairment amount.

Again, there's been some changes in the roles, but that would be sort of very simple way of looking at it today and going forward. Literally just a value comparison between the fair value of the business and its carrying value. To the extent that the fair value is less than the carrying value, you impair goodwill probably for the difference. There is a mechanism for testing which.

Asset do you test first and all of that. But in this sort of situation, I think what's likely to happen is you have an impairment of goodwill of 5.

If the carrying value is 95 and.

The fair value is 90, and then.

What impacts can they have if there's a significant difference?

If the fair value is significantly below the carrying value?

Yep.

There's a number of things you need to look at is are there assets that are impaired? Do you have, let's say an indefinite life brand? You have long lived assets, you know.

Fixed assets and other things, intangibles that are being amortized, are they impaired?

The testing for that is under a slightly different rule. It's ASC360.

Testing for Goodwill is under ASC350.

But to the extent that you have a significant differential between your carrying value and your fair value, you've really got.

To look at, well, is there other impairment that exists?

We don't find that to happen. In many situations it's probably single digits.

On a percentage basis.

But from time to time it can happen. When the bottom really falls out of a business.

What is the biggest obstacle you face when it comes to intangible asset valuation?

You know, these days I think we're on a pretty good path.

In the past you had issues with information that was available, let's say like customer.

When you're buying customer relationships, you've got.

To get five years of sales by.

Customer by year data that wasn't typically.

Available or readily available in the past.

Today it is, I think also people from time to time question the methodologies.

That are being used to value intangible assets.

But what I would say is today there are really good methods that have.

Been around for a long time that can be used to value intangible assets.

And some of the things that are hard to value. Maybe it's a consumer product brand or.

A technology or customer relationships that aren't contractual, that are more transactional.

There are methods to value those sorts of assets.

I think the tools are there in order to do that.

That seems like something that would Be really difficult to do. I've always questioned it with our own business, like how do you start valuing a company like ours? We're very tech oriented and nothing's tangible.

Yeah, yeah.

An earlier stage company obviously is more.

Difficult to value than a later stage company.

But I would say that today the.

Tools are in place to really get your arms around value, intangible value.

And really what you do is you triangulate, right? You have a bunch of different indicators.

Of value and you try to continue to refine those differing value conclusions or buying indications to come up with a reasonable value conclusion.

An earlier stage company is difficult, more difficult than a more mature company for sure. And you have other issues, you know, sometimes around intellectual property, which, you know.

Different people may look at in different ways.

We do our best to be objective, you know, benchmark to the market, try.

To gather as much information as possible and come up with a value conclusion that's objective.

When you mentioned tools, what kind of tools would be out there to help.

You with intangible assets, especially trademarks, brand names, technology?

The relief from royalty method is something that's been out there for a long time. It's basically looking at, well, what if you had to license the asset from a third party, what would you have to pay in terms of a royalty rate?

And there are some good sources of.

Information out there and so you can get some pretty good royalty data.

So from that standpoint, it's good, it's objective.

The negative of course, is that you probably don't have the identical asset being licensed. It's a bit of a struggle from that standpoint. But royalty from royalties, fairly frequently used.

There's another method called a multi period excess earnings method.

And really what that relies on is the forecast for the company and it takes what we call contributory asset charges for use of trademarks, technology and working capital and fixed assets and other things. And you come up with a residual cash flow amount and you basically infer that cash flow is relating to the asset that you're trying to value.

And it's a pretty commonly used approach.

Especially for customer relationships, where there's a.

Contract or technology, let's say in a.

Software company or technology company or brand names of a consumer product company.

We've also got another method called the distributor method to value customer relationships. And this really arose from the consumer.

Product industry where we wanted to use that multi period excess earnings method to value the brands. And we needed to figure out a way to value the customer asset. We look at these consumer product companies and oftentimes they were going to market direct, but also through distributors. And we said, well, why don't we use the distributor data as a proxy for the inputs that we would use in a customer relationship model. And so we've tried to use that again, market objective benchmarking to come up with values.

And of course, you know, to the extent that you can, there's also from time to time, market indications.

There are also cost indications that we can use.

And so again, we're trying to benchmark as well as we can to the market, try to be as objective as.

Possible and use these different tools to come up with a value conclusion that kind of makes sense for everybody involved.

Why is there such a variance between sectors? If you're going across different industries, the way they look at deals fluctuates quite a bit. If you're looking at something that's more traditional manufacturing towards finance technology, you just.

See this big, yeah, look, there's going to be differences because of different fact patterns.

So you're going to have situations where one particular methodology may be more relevant or prevalent to one industry versus another. You know, we're really fundamental analysts.

Like we're doing discounted cash flow analyses.

We'Re using market approaches.

And although others may look at things.

Differently and put weight differently on different.

Indications, you know, we're really using cost, market and income. Typically when we're talking about valuation of.

A business, it's both sort of a bottoms up fundamental view and a discounted cash flow analysis. And also looking at comparable companies and comparable transactions in our market approaches to come up with a value that we think makes sense.

Again, others may look at it differently.

From our standpoint, our tools are fairly consistent in what we use and how we apply them.

What about when it comes to strategic views? Because when I look at some of these deals, there's always a contrast between how financial buyers look at them versus strategics. Is there consideration in that? When you're looking at evaluating a business.

Our hope is there are differences, of.

Course, between sort of a financial buyer and a strategic buyer. You know, quite frankly, you would expect strategic buyers to maybe be willing to pay more, but we're not necessarily seeing that today in this market. I think in many cases it's the financial buyers that are winning, but the financial buyers are also acting a lot more like strategic buyers. You know, they're, they're doing acquisitions with the expectation that they're going to be adding on to the platform transaction. They're willing to pay a premium for the platform, but Then maybe pay less for the add ons.

The difference between sort of financial buyers.

And strategic buyers is declining in my experience.

And I guess the other point that I would make, and I kind of.

Inferred this earlier in our discussion, is that synergies are a big part of the acquisition rationale today. And again, whether it's strategic or financial buyer, we frequently see synergies as a significant component of the cash flow that's being generated. And a lot of times they're operational synergies which are easier to get your arms around. But from time to time you also see revenue synergies, which definitely makes things a little bit more difficult.

These synergies are very unique to the deal in terms of your role, how you're brought in and helping to look at that. And is that part of the valuation or is that something that just really needs to be done by that company in addition to looking at it from third party valuation, but that they need to have their own in house view and evaluate based on the synergies they see?

Yeah, so we're typically not brought in to look at those synergies. Management spends a lot of time, does a lot of due diligence to get their arms around it. Having said that though, I think being an analyst, we're always analyzing and we see these deal models and we kind of go aggressive, conservative, middle of the road. I mean, we're always sort of, even if it's not formally opining, informally looking at these things and sort of saying, do we think this is aggressive or not? Did they overpay or not? And I think part of that is also that we're brought in at the time of the deal to do a purchase price allocation. After the deal, we're doing goodwill impairments and that sort of stuff. We get to see when companies overpay, we get to see those overpayments firsthand.

Yeah, that's interesting. It's interesting how these things come together. And it really takes that company. Everybody has a different perspective and view on it.

It adds a lot of discipline to the process. The time of an acquisition, when you're going through that process and you're allocating the purchase price and you're really having to think about, well, what did we buy and how much of the purchase price are those different items taken up, how much is goodwill? And then fast forward to year one, year two, year three, and you're going through the process of going, okay, yeah.

Those synergies were optimistic, but in the.

End we still paid a reasonable price and we can justify what we've paid and we're not going to impair in goodwill or anything like that. And I think that discipline is super helpful.

And on the other hand, we also.

See situations where a company does a deal and they significantly overpay and you know, a year, two years in, they have to take an impairment and it's.

Kind of like, okay, well we thought you overpaid at the time of the.

Acquisition and now there's proof.

So speaking of optimism, I'm curious on your view around this, where a lot of folks, especially in corporate setting, they're in a corporate development role, they're primarily incentivized to close deals. Does that correlate with them being so optimistic on some of their models and predicting synergies?

I think it does.

I think when you're in a corporate.

Development role, as you've mentioned, you're incentivized to do deals. The CEO, CEO's office has a strategy in terms of what they want to do and where they want to go. And corporate development teams do a lot of the heavy lifting to help get you there.

I think there's balance.

So on one hand you've got the corporate development team that's doing the deals and it's incentivized to do the deal.

And then you've got the controllers group.

That has to account for these things after the deal. And just sort of the push and pull that you see between those two.

Groups in a good company lends you to a good outcome and leads you.

To a good outcome. You end up in a spot where companies. There's enough internal friction that companies end up at a good spot where they don't overpay, that they're not overly aggressive with assumptions around synergies and things of that sort. And yet at the same time, they're aggressive enough or optimistic enough that they can do deals. Because if you're completely conservative on these sorts of issues, you'll never win. And if winning is doing the deal, you just won't do any deals.

So there's good back and forth, I think that goes on between companies within companies. And I guess we've got a front.

Row seat to see all of that happen at the time of the deal and then after the deal.

But don't things get foggy after the deal? You have a criteria you initially want to measure success on, but as you start integrating the company, these financial balance sheets all merge to one and it becomes unclear in terms of if all those objectives were really met.

Well, I think that Definitely happens over time.

And every company is a little different, every deal is a little different. But typically what we see, if the deal is big enough, the first few years, you're not completely integrated. You still have balance sheets and income statements that you can leverage for this testing. Once you get out beyond three years, it gets harder to do. And then I think beyond five years it's virtually impossible. But in the vast majority of situations, you know, I'd say within the first year, 95% of the time, you still have good financial statements. After year two, maybe it's 80% of the time. After year three, 50% of the time.

Again, every company is different, every deal is different.

But I think that, you know, there is enough, it takes enough time to fully integrate that you can get good quality information, at least for the first few years.

Do you see companies pushing or do you see specific firms that really push to integrate fast and get that done within a year?

Yeah, typically it's a smaller transaction even, even if you want to integrate immediately. My experience is that you kind of get to that moment maybe three or six months in, where you kind of go, this is not what we thought. We need to maybe continue to manage this separately so we can see what the results look like. And so even the most optimistic company that wants to integrate significantly as close to post transaction as possible, you do end up holding businesses out as separate entities, separate reporting units, until you can really get your arms around what you have.

So I was reading that the inventory valuation practice rules and methodologies are from 1977 and haven't basically been updated since. Why is it taking long for the rules and regulations to get updated?

There were updates to it.

I think the last One was in 2003.

And more than the rules, I would.

Say it's sort of the practice of how you value inventory, not necessarily the.

Rules around inventory valuation. In today's environment, where companies are more.

Intangible based rather than tangible asset based, there's probably an evolution that needs to happen in terms of how you value inventory. We've heard this complaint from public companies in particular for years where you take sort of a top down approach to value inventory and you look at what the inventory would sell for and then you subtract disposition costs and profits on disposition activities. There's a lot of stuff in the middle there. It's gray, it's not necessarily a disposition cost or manufacturing cost, but it ends up showing up as part of the.

Manufacturing part of the equation and therefore.

Gets into the, built into the value of inventory. That's probably inappropriate. And again, companies, public companies in particular have been complaining about this for years because the impact of that is that it dilutes earnings in year one, dilutes the profit margins that the company will generate. In today's market where, you know, again, companies are more intangible asset focused. Thinking about sort of the returns on your intangible assets, whether it's brands or technology, where does that fit into the equation? Is that part of the disposition activities or the manufacturing activities or should it be split between the two? And then some of the costs associated with that? Let's say, you know, R and D expense or maybe some of the great costs like SGNA kind of costs and really drilling down to figure out sort of where they belong, I think is an important exercise. I'd also say the other way that I think about this is really to.

Look at what should you be compensated.

For when, you know, when you think.

About inventory needing to be valued as.

Part of a business combination, what you're trying to do is compensate the seller for activities that happened prior to the closing of the transaction. And what that typically means is they've taken some raw materials and converted them either into WIC or finished goods, which means that they've used some of their fixed assets, some of their people, maybe.

Some working capital, maybe a little ip.

And we know how to calculate those things directly. Today, you know, maybe 1977 we didn't, but today we do. And so to me there's a way to directly value those items sort of bottom up, calculate returns on the activities that were completed pre deal so that at the time of the acquisition, the inventory value that you have is reasonably reflective of the work that was completed pre deal. A post transaction basis, you've got an inventory level that doesn't dilute future profitability. It's a little bit of balancing that has to go on between how you account for pre deal activities versus post deal activity activities.

What do you see making a bigger impact on intangible asset valuation? Conceptual problems or the practical problems?

I don't know if today either one is an issue. Again, historically speaking, you might have had an issue with some of the conceptual issues around what intangible assets are present or how to value them. But you know, when you look at VRC and we've been working on five and 600, 500 and 600 deals a year, we've got a lot of practice doing that and identifying assets and figuring out what belongs and what doesn't belong. And you know, in terms of practical Issues. The IT systems of the companies that we work with are so well developed today that we have a pretty good understanding of how to get to the inputs that we need to value assets. Whether it's looking at the attrition rate on customers or the obsolescence rate on technology, there are really good ways of, of getting through that.

You know, I'd say there are some.

Certain small things that we've encountered that are helpful. For instance, if you're valuing technology and in the past somebody might have said to us, well, you got to value our patents.

Well, what we find today is we.

Don'T really have to value the patents. What we value is the product technology, and that's patents. It's unpatented technology, it's trade secrets, it's know how. It's really the bundle of rights around a product. And typically companies have financials for that product. We can get margin data for the product and we can look at sort of that bundle of rights as a whole. And so it really becomes a process that's easier to get your arms around now to get to the next level in terms of if you had to split value between patented and unpatented trade secrets, and that becomes more difficult to do. But from a practical perspective, again, I think that looking at the bundle of rights around technology is something that we've got a lot of practice doing.

And quite frankly, you could look at.

Other assets and say the same thing. You could look at the trademarks and brands of a consumer product company and again value them under brands instead of trademark, trade name, copyrights and other things. You could look at customer assets and you could look at contracts and extensions beyond the contract term and backlog and things of that sort. Or you can just value customer relationships as a group. And so again, we've developed ways to really be able to get at the economic value of these assets and to aggregate in a way that makes sense is in line with how the company manages these assets and where data is available.

The pain points of goodwill valuation generally agreed upon universally, or do you see opposing viewpoints from different sides of the industry?

Pain points are the same. I mean, there's a lot of regulatory scrutiny around goodwill, which I think is probably the biggest pain point. And so it's not so much the valuation. The valuation itself, you know, is pretty easy. I mean, for us to get our arms around, you know, the value of reporting unit is pretty easy. Typically there's pretty good market data that's available as well as you move from there to sort of dotting the I's and crossing the T's. I would say there's some things that you need to look at in terms of taxable and non taxable transaction structures.

And that sort of stuff that becomes a little bit more difficult, I would say a little bit more difficult for.

Us to get our arms around the company to get their arms around. I mean, it's still not that difficult of an exercise. 90% of the time you're going to have the 10% of the time where it's a smaller company or a company that's distressed or going through a recovery and it's hard to really understand sort of what their normalized earnings are. But the vast majority of time it's, it's not a big deal. What becomes difficult though for companies is that once the valuation is done, there's a lot of audit scrutiny around it. It's the number one critical audit matter issue the PCOB sees. And so there's a lot of things that go on above and beyond valuation. The valuation itself, pretty straightforward. I mean, I think any, any valuation person can pretty quickly get their arms around whether a company is clear or is impaired or, you know, sort of on the cusp of impairment. That level of information I think we can all do pretty quickly, pretty easily. It's all the other stuff, the memos and the documentation that companies need to do that makes this process more difficult.

Do you think the trend of tax restrictions becoming more aggressive worldwide will continue?

I think so. I mean, everybody wants their piece of the piece.

As you look out to the future, you know, everybody, everybody wants to ensure that they've got, that they're getting the right amount of tax inflow as a result of activities that are happening in their country. When you speak about the digital economy and things that are harder to place in terms of where they're located and that sort of, that becomes more difficult. And because of that, I think everybody, all the tax jurisdictions around the world have some anxiety over, well, how do we ensure that we get our piece of the pie or more. It's not like you've got a plant in your country or you've got a product that's being sold. It's, you know, these things are intangible in nature, digital in nature. And so it becomes difficult to really get your arms around.

Accounting firms and lawyers will never go out of business.

Yeah, you're probably right.

I mean, it's, you know, you got to be able to figure out sort of who owns what. I think that's a big push that we See, on the tax side right now, this was an issue in the past, but there's an acronym called dempy. And you know, we used to see this with consumer product companies where maybe a brand was owned legally in the US but maybe was being used, let's say in Spain. And you know, then you have to figure out sort of, well, does the value belong in the US or in.

Spain or in both.

And the reality is it's probably both. Some of the rules around Dempy where it's, you know, development, exploitation, maintenance, protection, etc. That in the situation or the fact pattern that I just mentioned, the brand economically is probably owned in part in the US but also in part in a country like Spain. Even though it may be developed in the US and it may be used in Spain, but both have probably contributed to getting that brand set to where it is today.

You know, that balancing that needs to go on and trying to understand sort.

Of who owns what and why. It's not just legal, it's not just contractual, it's also economic and risk based and things of that sort. So you've really got to peel the onion back, I'd say, and look at value in total to understand where value is being created, not just based on a patent or license agreement or anything like that.

Very interesting perspective. Why do people get valuations in the first place?

We're involved with is, I would say more regulatory based. At the time companies do a deal, whether it's for the board or for tax or for financial reporting, you need a third party like us to give you an opinion of value. Your board may want to know if the deal is fair. Your board may want to know if the company is solvent. After doing a deal for tax purposes, you may need to allocate value to the different legal entities around the world. For financial reporting purposes, you may need to identify what assets you're acquiring. Intangible assets, goodwill, tangible assets, etc. There's typically a need based on being able to provide information, again for financial reporting, tax, or for the board.

What are the biggest concerns when getting valuation done?

I think that from our standpoint, what we see is just kind of looking at the deal and making sure that the lens is consistent between why the company did the deal and what they paid and what they're projecting. I think for us, again, given the number of deals we see and given sort of what our role is as part of those deals, that consistency is a very important piece of the pie or piece of the puzzle and just making sure that we really Understand sort of why companies, why the company's doing the deal and how their deal model reflects that. The vast majority of times, 90 plus percent of the time is not an issue. But 10% or less, where it's not an issue can really cause some problems. Just in terms of how do you communicate the deal internally, externally, how do you hold up to external scrutiny and things of that sort.

Do you ever get people that try to influence their valuation?

You know, I'd say we're pretty lucky in that.

And it's probably something that does happen from time to time.

In the space that we're in, the best thing that we can do is.

Give you a value that stands up to the test of time. There's going to be scrutiny and that scrutiny probably comes from areas that you don't expect at the time of the valuation.

What we find is doing a valuation.

That benchmarks to the market, is objective, is neutral, is the best thing we can do for ourselves, but also for our clients. And so now, on the other hand.

From time to time, the clients look at it and go, we think you're.

Missing X or Y. They definitely do, but it's not sort of like, oh, you're missing X or Y. And because of that, the value should be 10% higher or 100% higher or lower. I mean, it's, it's very rare that you hear those kinds of situations, luckily.

And again, like I said before, the.

Best thing that we can do is have a valuation that stands up to the test of time. That's the best situation for everybody.

Yeah, I think part of it is where you sit in the market, you're not doing the small business type of valuations, right?

Yeah, and that's right. I mean, we're working on some really big deals. Just finished a deal that was 60 billion, but, but also we're working on some smaller deals in the 1 and 2 million dollar range. Lots of deals in the middle market, lower middle market, and then solidly in the middle market. And so because of that, I think we don't get to see necessarily some of those situations where there's a lot of arm twisting.

This marketplace, there's a lot of places anyone can go to get evaluation worked on. I'm curious from your perspective, just giving me a little free advice here, what should I look for? Specifically to know that I'm working with the firm that's going to deliver something that's going to stand up because you just can't go to anybody. I want there to be some sort of reputation and some standing with it as well. What particularly to know that things were done right and.

Well, you know, you're right.

I mean, there's a lot of people that do valuations, but finding someone that operates in the area that you need it. So, for instance, if you're doing work for financial reporting purposes, you want to have somebody that's done a lot in that space, not somebody who sort of dabbles in the area. And I think the experience of the valuation professional is really important. And I would say that's exclusive of firm as well. I mean, go with a bigger firm like us, and you're probably more likely.

To have that expertise.

But I think you still want to be sure that the individual, the professional that you're working with, has the experience and knowledge that you're looking for in the space that you operate. Also, when we do valuations, there's a lot of different things involved. Evaluation is important, but, you know, in certain cases, knowing the accounting rules or knowing the tax rules or knowing legal issues, those are all really important parts of it as well. And so you've got to be able to understand not only the valuation, but the areas around the valuation that will be helpful to you in having a successful engagement.

Have you ever done valuations that have just like, dramatically changed things and made a big significant impact, or you just discovered something that was totally missed in their initial diligence?

We have now, it's not overly common.

Because typically as we're getting involved, it's been reviewed and the deal's been reviewed and that sort of stuff.

But every once in a while, you know, maybe it's one out of every.

20 times or less, you end up in a situation where you think through something that management hasn't necessarily thought of. I could think of an engagement maybe about six months ago where a company was looking at a transaction and we were going to opine on the transaction, but they didn't really think about what that transaction would mean for the rest. The company that remained and the part of the business that was being sold wasn't necessarily the most valuable piece, but it was a fairly profitable piece. You can think about value, but not necessarily profits, or you can think about profits but not necessarily value. In this situation, we were uncomfortable with what. What the business would look like post transaction.

You know, there's other situations that come up. Again, I think I kind of alluded to this earlier.

I mean, we're in the business of analyzing, and we're constantly analyzing management and business models and forecasts and projections and you know, trying to make sense of things. And so again, it's not every day, but every once in a while, you know, this is the A team or it's not the A team. And so, you know, you make those sorts of judgments every day and every once in a while, one out of every hundred times or something, it's in a way that's not necessarily positive.

I spent a lot of time doing interviews with people that are more on the people side of these deals. I'm curious to know if you interact with that view at all when doing valuation work.

We really don't look, we do due diligence as part of the valuations that we do, and so we get to interact with management. And as I said earlier, we always make a judgment in terms of what we think the quality of the management team is.

Does that come in the valuation? I think the management team sucks. And this is why.

Again, a lot.

Of times we're working on deals and the deal price has already been set. It's probably just more one of those items where it's not shared. It's just one of the items that we work through and think through as we're working through the valuation. Now, I will say if we're doing a independent valuation that's maybe outside of a transaction, it may add to the risk profile that we look at for the company. And, you know, there's always sort of a subjective risk element that we have the ability to add in if we think it's appropriate. It's not something that we see every day. It's not sometimes, not even every year. But, you know, every once in a.

While I can think of a couple.

Of transactions that I've worked on where we go out and meet with management. It's kind of like, oh man, this is. They're struggling to explain the business to us and trying. Struggling to be consistent and things of that sort. Whereas. But, you know, 99 out of 100 times, I mean, the management teams that we meet with are great and they know the business and they, you know, they can speak to issues that we need to discuss from the top of their heads. And it's just, you know, not. Not an issue at all. But, you know, one out of every hundred times it's. Or thousand times. It's like, okay, not what we expected.

What's the craziest thing you've seen in M and A?

I haven't seen anything maybe a layperson would look at as being. I think some of the things that surprise me though, is just some of the deals that we've seen, where we've worked on, where it's remember this is going back a number of years ago and there was a company that we were valuing for a while and they'd had a little bit of trouble. We were valuing it for call it a billion dollars. And Strategic came in and literally paid $2 billion for it, like 100% more than what we had valued the company at. And we just couldn't believe it. Just given some of the things that we've seen, and we've seen some deals recently like that as well, where company that had just been acquired in the last couple of years and there's a transaction where literally the new buyers pay double the purchase price or more. You wonder how. You wonder. So I'd say in my world, it's quite frankly nothing shocking necessarily, but surprising.

Yeah, we see surprising all the time.

And typically it's how in some cases really smart, sophisticated buyers are putting a lot of money on the line in a way that is unexpected. But maybe they see things that we don't see. But I'd say that, you know, again, given what we do, we get to see this through the entire cycles, not only at the time of the deal, but post transaction. And you know, I'd say that more often than not, we typically do have it right or do get it right in terms of when we're surprised. It's usually not a good thing.

Very cool. So that could be the guy that's incentivized just to take the the deal to close.

Yeah.

All right, sounds good.

Hey, thanks for your time today, pj.

Thanks.

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