< PreviousA PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES 20 MARCH | APRIL 2020 t h e v a l u e e x a m i n e r Planning point: Keeping in mind that the owner cannot receive more than indemnity for his loss, if replacement value is used as a surrogate for fair market value, the appraiser should be careful to determine the cost of replacing the identical facility in another location. Relocation Costs. In federal cases, the Uniform Relocation Assistance and Real Property Acquisition Policies Act of 1970 establishes property owners’ rights to recover relocation expenses. Most states have enacted similar legislation requiring relocation compensation for condemnation actions.24 An owner-occupant or tenant who qualifies as a displaced person and who moves a business, farm, or nonprofit organization is entitled to payment for actual and reasonable moving and related expenses.25 In addition, business owners are entitled to payment for: (1) actual, reasonable, and necessary expenses for connection to available nearby utilities from the right-of-way to improvements at the replacement site; (2) professional services performed prior to the purchase or lease of a replacement site to determine its suitability for the displaced person’s business operation, including, but not limited to, soil testing, feasibility, and marketing studies (excluding any fees or commissions directly related to the purchase or lease of such site); and (3) impact fees or one-time assessments for anticipated heavy utility usage.26 A “small business” (less than 500 employees), farm, or nonprofit organization is also entitled to payment for “reestablishment expenses” up to $10,000, for expenses actually incurred related to relocation and reestablishment.27 These expenses include, but are not limited to, the following: 24 See, e.g., Minn. Stat. § 117.52, providing that “the acquiring authority, as a cost of acquisition, shall provide all relocation assistance, services, payments, and benefits required by the Uniform Relocation Assistance and Real Property Acquisition Policies Act of 1970.” 25 49 C.F.R. § 24.301. 26 49 C.F.R. § 24.303. 27 49 C.F.R. § 24.304. • Repairs or improvements to the replacement real property as required by federal, state, or local law, code, or ordinance •Modifications to the replacement property to accommodate the business operation or make replacement structures suitable for conducting the business • Construction and installation costs for exterior signing to advertise the business •Redecoration or replacement of soiled or worn surfaces at the replacement site, such as paint, paneling, or carpeting •Advertisement of replacement location • Estimated increased costs of operation during the first two years at the replacement site for items such as lease or rental charges, personal or real property taxes, insurance premiums, and utility charges, excluding impact fees Reimbursement is not available for costs such as the purchase of capital assets, manufacturing materials, product inventory, or interest on money borrowed to make the move or purchase the replacement property. Going concern value and goodwill. When the restaurant locates to a new part of town, the business may suffer a loss of “going concern value” and “goodwill.” Going concern value represents “the advantages inherent in acquiring an operating business as compared to starting a new business with only land, buildings, and equipment in place,”28 while goodwill is the value attributable to established customer patronage.29 The value of these items and related intangible assets have been treated as noncompensable by federal courts but allowed by some states.30 States that disallow recovery 28 Gray Line Bus Co. v. Greater Bridgeport Transit. Dist., 188 Conn. 417, 422 (1982). 29 See, e.g., Los Angeles Gas & Elec. Corp. v. Railroad Comm’n, 289 U.S. 287, 313 (1933), where goodwill was defined as the “’value which inheres in the fixed and favorable consideration of customers, arising from an established and well- known and well-conducted business.” 30 See, e.g., U.S. v. 0.88 Acres of Land, 670 F. Supp. 210 (W.D. Mich. 1987), holding that “damages for the loss of goodwill or loss of the going-concern value of a business are not compensable unless the government has condemned the business with the intention of carrying on the business.” The cost to replace lost property may be higher than the fair market value of the condemned property. Generally, the replacement cost approach is disfavored by courts, since it “sets an upper limit on value which often is not even remotely approached in actual negotiations in the marketplace.”A PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES t h e v a l u e e x a m i n e r MARCH | APRIL 2020 21 for business loss do so generally under two theories. In some states, courts view the concept of losses in going concern value and goodwill to be real, but too speculative to estimate.31 Alternatively, some courts believe that compensating an owner for lost goodwill or going concern value would be redundant in that these values will be transferred to the new business location.32 The current trend in state law is to allow for payment of these items.33 A recent decision from the California Court of Appeal illustrates a good approach. In Los Angeles County Metropolitan Transportation Authority v. Yum Yum Donut Shops, Inc.,34 the Los Angeles County Metropolitan Transportation Authority (MTA) sued Yum Yum Donut Shops in eminent domain to take one of Yum Yum’s donut shops in the path of a proposed rail line. Yum Yum sought loss of goodwill from the taking. MTA offered three alternative sites but Yum Yum rejected them, as they failed to satisfy Yum Yum’s location criteria. MTA valued Yum Yum’s goodwill at the subject store to be $620,000, with much lower values at any of the three proposed sites. After the trial court held in favor of MTA, Yum Yum appealed. The appellate court held that Yum Yum established entitlement to lost goodwill and remanded the case to the lower court to determine the amount of the loss in a jury trial. Planning point : The intangible nature of business value should not preclude recovery of just compensation when a business location is condemned by eminent domain. In fact, in Kimball Laundry, the Supreme Court explained that the “intangible” value of business goodwill is “no different from the value of the business’s physical property.”35 To demonstrate the loss of goodwill and going concern value, appraisers must be able to quantify these lost values by separately identifying the tangible assets and intangible value in the valuation. 31 See, e.g., State v. Heslar, 257 Ind, 307, 314-15, 274 N.E.2d 261, 266 (1971). 32 See, e.g., Kimball Laundry Co. v. United States, 338 U.S. 1, 15. 33 See, e.g., Minn. Stat. § 117.186, subd. 2(2), which provides “If a business or trade is destroyed by a taking, the owner shall be compensated for loss of going concern, unless the condemning authority establishes any of the following by a preponderance of the evidence: (1) the loss is not caused by the taking of the property or the injury to the remainder; (2) the loss can be reasonably prevented by relocating the business or trade in the same or a similar and reasonably suitable location as the property that was taken, or by taking steps and adopting procedures that a reasonably prudent person of a similar age and under similar conditions as the owner, would take and adopt in preserving the going concern of the business or trade; or (3) compensation for the loss of going concern will be duplicated in the compensation otherwise awarded to the owner.” 34 32 Cal. App. 5th 662 (2019). In particular, appraisers should focus on the Supreme Court’s reasoning in Monongahela Navigation Co. v. United States,36 where the government condemned a company’s state charter to operate locks on the Monongahela River. The Court, focusing on the “full and perfect equivalent” value of the appropriated property, held that the company was entitled to recover compensation for the loss of its franchise because it was an integral part of the property’s value to the owner. By specifically delineating components of business value, such as patronage and brand value as they impact temporary or permanent cash flows, courts may be more willing to entertain the loss of business value as compensable under the Fifth Amendment. Attorney’s fees. Some state statutes entitle property owners to recover their attorney’s fees for challenging the government’s exercise of eminent domain. For example, the California Code of Civil Procedure (section 1246.3) provides that attorney’s fees and appraiser’s fees are to be recovered only in inverse condemnation proceedings. Florida allows recovery of attorney’s fees and costs if the property owner is successful in its inverse condemnation case.37 Case 2 The State of Georgia Department of Transportation (DOT) is acquiring a tract of undeveloped timberland for a road construction project. The condemned property contained a subterranean deposit of sand and gravel, minerals used in the manufacture of concrete and other products. A gravel pit that originally opened in the 1950s was located to the north of the condemned property. To the south of the condemned property was a residential neighborhood. The condemned property was located within the city limits of Savannah, Georgia. In 2001, the City of Savannah enacted a zoning ordinance, and the condemned property was zoned The intangible nature of business value should not preclude recovery of just compensation when a business location is condemned. 35 338 U.S. 1, 11. 36 148 U.S. 312 (1893). 37 73.091 and 73.092 Fla. Sta.A PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES 22 MARCH | APRIL 2020 t h e v a l u e e x a m i n e r agricultural. Under the zoning ordinance, mining was not permitted in an area zoned agricultural absent a special exception approved by the Savannah City Council. No special exception was ever approved for mining gravel or sand on the condemned property. The DOT argues that the highest and best use of the property is its present agricultural use as timberland, and that the sand and gravel deposits did not enhance the value in light of the City of Savannah’s zoning restrictions on mining and the unlikelihood of a special exception being approved. The property owner argues that the value of the condemned property was significantly enhanced by the mineral deposits and not affected by zoning considerations. Special valuation issues for the appraiser (and counsel) include (1) determining the highest and best use for the timberland, given the potential of rezoning the condemned property containing a subterranean mineral deposit, and (2) potential evidentiary issues regarding the zoning potential of the condemned property as it relates to the land’s value—i.e., can the condemnee introduce evidence that the zoning commission is likely to permit rezoning of the property for mining. Analysis The owner’s appraiser should value the land in its current undeveloped form, based on its highest and best use, which assumes that the property is rezoned to permit mining of gravel and sand. Under Georgia law, the trial court should charge the jury that it should consider the mineral deposits as part of its valuation of the condemned property, irrespective of whether the condemnees had mined the property or planned to mine it at the time of the taking. Generally, courts have indicated that mineral deposits have intrinsic value as part of the land that should be considered by the jury in valuing the condemned property, even if the condemnee never personally mined or had plans to mine the minerals as of the date of the taking.38 Conclusion Eminent domain valuations combine fundamental elements of valuation principles and unique aspects of constitutional law. The just compensation requirement of the Fifth Amendment sets a broad standard for the government and property owners. With a rich body of case law, the fair market value standard is firmly established. Similar to most valuations, unique aspects of the condemned property will often require appraisers to estimate fair market value with multiple valuation approaches. In particular, when the subject property involves a business, special attention is warranted to ensure that all components of business value are included in the just compensation calculation, consistent with legal requirements. With the trend in state and local cases moving toward awarding losses of goodwill and going concern value, appraisers can employ their full set of valuation tools to ensure that just compensation is accurate and complete. Alan Clements is an attorney and CPA specializing in matters of taxation and business law. He is an associate professor at Kennesaw State University, in the Coles College of Business. Dr. Clements provides advice in navigating technical tax issues and helps businesses maximize their business and tax positions from the initial formation of the business and operational matters to evaluating strategic options in mergers, reorganizations, or divestitures. Dr. Clements is a graduate of the Georgia State University College of Law. He holds a PhD and MBA from the University of Florida’s Warrington College of Business. VE With the trend in state and local cases moving toward awarding losses of goodwill and going concern value, appraisers can employ their full set of valuation tools to ensure that just compensation is accurate and complete. 38 Gunn v. Dept. of Transp., 222 Ga. App. 684, 685–6 (1996); Dept. of Transp. v. Sharpe, 219 Ga. App. 466, 468 (1995).A PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES t h e v a l u e e x a m i n e r MARCH | APRIL 2020 23 Academic Research Briefs By Peter L. Lohrey, PhD, CVA, CDBV /////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////// /////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////// ACADEMIC REVIEW This column provides readers with summaries of contemporary research in valuation and forensic accounting. Summarized manuscripts—selected from numerous academic research outlets— cover significant developments that affect the ever-changing valuation and forensic accounting landscape. The objective is to increase awareness of recently completed research that advances knowledge of these subjects. As this column evolves, I encourage the readership to forward relevant manuscripts or working papers for consideration. Please send links and/or files to: earch Briefs” in the subject line. Valuing Minority Interests Author: Doron Nissim, Columbia Business School Source: Summary Nissim begins by pointing out two types of minority ownership interests that come into play when valuing the common equity of many businesses: (1) equity method investments, which consist of a company’s substantial minority claims in affiliated entities, and (2) noncontrolling interests, which consist of outside minority claims in the company’s partially owned subsidiaries. He points out that in many cases, the estimated book value is used to value these minority interests because very little information is provided on such claims. Nissim then constructs an algorithm to estimate the fair value of minority ownership interests, which uses book value, earnings, and the average pricing of these fundamentals in a firm’s industry. Use of this algorithm—instead of book value—provided a reasonable and statistically significant improvement in the accuracy of the fair value estimate of common stockholders’ equity. Literature Considered in the Study Nissim states that when nonfinancial firms are being valued, it is common practice for analysts to rely on: first, estimating the value of operations, then adding the value of nonoperating assets such as equity method investments in real estate not used for operations, and finally, subtracting the value of non-common equity claims, such as net debt in noncontrolling interests, to determine the value of the parent entity. Nissim also asserts that there has been substantial support for and guidance on estimating the value of operations— mostly DCF analysis or EBITDA multiples by Kaplan and Ruback (1995) and Liu et al. (2002)—but there has not been much research on the valuation of equity method investments or noncontrolling interests, according to Bauman (2003) and Lee et al. (2013). In fact, most analysts estimate the fair value of minority interests using book value, while others use a multiple or capitalization factor and apply it to minority earnings. Design and Execution of the Study Nissim’s study produces results that are pertinent for valuing minority interests. It (1) defines and assesses different methods for calculating the value of minority interests; (2) creates an algorithm to combine the various estimates into a more precise estimate of value; (3) studies the magnitude of and variation in the variance between the algorithm-based estimate and book value; and (4) assesses the accuracy of the estimated value of common equity when minority interests are valued using the algorithm in place of book value. The main objective of the study is to assist financial statement users, such as practitioners and academics, in increasing the accuracy of their fair value estimates of minority interests and the subsequent calculations of common equity value. A PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES 24 MARCH | APRIL 2020 t h e v a l u e e x a m i n e r Nissim estimates fair value by using one or a blend of the following methods: • Book value (BV) • Capitalized earnings (earnings divided by the cost of equity capital) • Industry multiple of earnings • Industry multiple of book value • Conditional [on return on equity (ROE)] industry multiple of book value In the first part of the study, book value and earnings of public companies are used to estimate fair value under each of the five methods listed above. Nissim then evaluates the relative accuracy and incremental information of the estimates to explain the market value of the companies. He asserts that the results indirectly explain the accuracy of the methods used to estimate the value of minority interests due to the fact that earnings and book values of minority interests are usually proportionate to the earnings and book values of the affiliated entities—including subsidiaries. The observed results for the first stage of the study found that BV and the capitalized earnings approaches provide estimates that significantly underestimate the market value for most firms. More specifically, the fair value estimates made using the conditional BV multiple approach dominated the other four estimates on a monthly basis during the 30-year period, January 1989 to December 2018. The discovery that fair value estimates based on conditional BV multiples are more precise than estimates obtained using the other four methods does not suggest there is no incremental information offered by the other estimations. Nissim goes on to investigate whether the five fair value estimates can be combined to provide a more precise measure than the one provided by the conditional BV multiple alone. He estimates the following model: P = β1P(BV) + β 2P(Cap_Earn) + β3P(Ear_Mult) + β 4P(BV_Mult) + β5P(Con_BV) + ε Subject to: βi ≥ 0 for I = 1, …, 5, and β1 + β 2 + β3 + β4 + β5 = 1 where P(X) denotes estimated value based on model X, for X = BV, capitalized earnings (Cap_Earn), earnings multiple (Ear_Mult), BV multiple (BV_Mult), and conditional BV multiple (Con_BV) Conclusion Nissim's weighted least squares model yields a surprising finding: the coefficient of the fair value estimate based on the earnings multiple—(P(Ear_Mult)—was significantly greater than the other four coefficients, with the coefficients for P(BV_Mult) and P(Con_BV) being of equivalent weights, and the two other coefficients being close to zero. Furthermore, by using the estimated weights to reach a combined fair value estimate, the paper shows that the weighted average measure is substantially more accurate than each of the five separate fair value estimates. The significant variation in the amount of the differences between the expected fair and book values suggests that use of the same book-value-increase across different minority claims will most likely produce significant valuation error. The significant variation in the amount of the differences between the expected fair and book values suggests that use of the same book- value-increase across different minority claims will most likely produce significant valuation error.A PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES t h e v a l u e e x a m i n e r MARCH | APRIL 2020 25 Nissim’s final empirical test compared the precision of the fair value estimates for minority interests of common equity being valued using his algorithm instead of using book value. He evaluated the two separate estimates’ ability to estimate the market value of common equity in order to determine which method did a better job in determining fair value. He concludes by finding that the use of his algorithm to determine the market value of minority interests in common equity provided a statistically meaningful improvement over the use of book value to measure fair value. Scratchpad: A Private Company Business Valuation Case Authors: James A. DiGabriele, Montclair State University, and Richard A. Riley, West Virginia University Source: Journal of Forensic Accounting Research, Volume 3, Issue 1 (December 2018) Summary Ben and Cindy Johnson had been married for twenty years. They also co-owned and operated Scratchpad, a software production and distribution business. The couple has drifted apart over the last few years, and Ben has amicably filed for a divorce from Cindy. They have agreed not to work together after the divorce. Hence, the divorce settlement will provide that compensation will be paid to Ben in exchange for transferring his ownership interest in Scratchpad to Cindy. DiGabriele and Riley (D&R) ask students to determine the value of Scratchpad as part of the termination of the marriage. Background of the Case As the Director of Forensic Accounting and Litigation Support for XYZ & Co., CPAs, you have been hired by a law firm to be the independent neutral expert1 to value a 100 percent ownership interest in Scratchpad Software Inc. (“Scratchpad” or “the Company”), a subchapter S corporation. Scratchpad is co-owned by Ben and Cindy Johnson, and it produces and 1 Independent neutral experts are hired by both sides in litigation matters. Both sides agree to be bound by the independent neutral expert’s findings. The Value Examiner®—May/June 2016 CPE Exam Office Use Only: Invoice #: Examiner CPE Rev 7/14/16–Page 1 Earn five hours of NACVA CPE*by reading The Value Examiner and For CPE credit, scan and e-mail to: (801) 486-7500, or mail to: 5217 South , UT 84107 Member cost: $76.50 (Non-Member cost: $85.00) Name: Designations: NACVA Member #: Firm Name: IBA Member #: Address: City: State: ZIP: Tel: Fax: E-mail: Check #: (payable to: NACVA) or VISA MasterCard AMEX Discover lub Credit/Debit Card #: Expiration Date: Credit card billing address: Same, or Address: City: State: ZIP: Authorized Signature‡ Date: ‡By signing, you authorize the National Association of Certified Valuators and Analysts (NACVA) to charge your account for the amount indicated. NACVA can also in the event a credit or correction is due. Your signature authorizes NACVA to confirm the use either for future communication. NACVA will not disclose or share this information * This exam does not qualify for NASBA QAS CPE credit. Important note: Although this exam qualifies for NACVA CPE, it may not be accepted by all state boards or accrediting organizations. Therefore, individuals should contact their state board or accrediting to determine if passing an exam after reading a book/magazine meets their CPE State CPE Sponsor #:_______________. Does the IPCPL Make Sense (Part II) By Richard R. Conn, CMA, MBA, CPA, ABV, ERP 1. The IPCPL methodology is founded upon the premise that there is a direct inverse relationship between the firm size (i.e., Enterprise Value) and cost of capital—the smaller the firm, the higher its risk rate. In Part II of his continuing argument against IPCPL, Conn takes the position that:a. He agrees with the premise b. He disagrees with the premise c. He offers no comments either in support of or against the concept 2. BB&D and Gorshunov are really saying both that smaller EV firms have higher costs of capital and that there is a direct correlation between firm EV and its revenues (e.g., smaller firms have lower revenues). However, Conn’s regressions of the actual IPCPL data has led him to conclude that:a. There is a very strong inverse correlation between firm EV and its cost of capital (i.e., smaller EV firms have higher risk rates) b. There is a very strong direct correlation between firm revenues and EV size (i.e., firms with higher revenues have greater EV’s than firms with lower revenues) c. There is no correlation between firm EV and its cost of capital and, at best, only very weak correlation between firm revenues and EV size d. High degrees of correlation is not necessarily an indication of causality The Value Examiner ®—March/April 2016 CPE Exam Office Use Only: Invoice #: Examiner CPE Rev 5/4/16–Page 1 Earn five hours of NACVA CPE* by reading The and completing this exam. For CPE credit, scan and e-mail to: (801) 486-7500, or mail to: 5217 South State Street, Suite 400, 84107 Member cost: $76.50 (Non-Member cost: $85.00) Name: Designations: NACVA Member #: Firm Name: IBA Member #: Address: City: State: ZIP: Tel: Fax: E-mail: Check #: (payable to: NACVA) or VISA MasterCard AMEX Discover Diners Club Credit/Debit Card #: Expiration Date: Credit card billing address: Same, or Address: City: State: ZIP: Authorized Signature‡ Date: ‡By signing, you authorize the National Association of Certified Valuators and Analysts (NACVA) to charge your account for the amount indicated. NACVA can also initiate credit entries to your account in the event a credit or correction is due. Your signature authorizes NACVA to confirm the above information via e-mail and/or fax and to use either for future communication. NACVA will not disclose or share this information with third parties. * This exam does not qualify for NASBA QAS CPE credit. Important note: Although this exam qualifies for NACVA CPE, it may not be accepted by all state boards or accrediting organizations. Therefore, individuals should contact their state board or accrediting organization to determine if passing an exam after reading a book/magazine meets their CPE requirements. State CPE Sponsor #:______________ _. A New Era for Fair Market Value Physician Compensation By Mark O. Dietrich, CPA, ABV 1. Appraisal practice and government enforcement surveys have been employed as a “gold standard” in measuring fair market value for physician compensation for many years. In this article, the author makes the case that this measurement: a. Is the most efficient and accurate way to measure FMV for physician compensation b. Is based on a series of critically flawed beliefs amongst many regulators and appraisers c. Is flawed, but still useful d. None of the above 2. Regarding the question whether or not all physicians will soon be employed by hospitals, the author suggests: to single specialty physicians in private practice considering are the chief employer of specialty physicians in private practice c. Survey data does not exist to support either conclusion d. More research needs to be done to establish specialty physicians considering private practice The Value Examiner ®—July/August 2016 CPE Exam Office Use Only: Invoice #: Examiner CPE Rev 8/31/16–Page 1 Earn five hours of NACVA CPE* by reading The Value Examiner and completing this exam. For CPE credit, scan and e-mail to: fax to: (801) 486-7500; or mail to: 5217 South State Street, Suite 400, Salt Lake City, UT 84107 Member cost: $76.50 (Non-Member cost: $85.00) Announcing—The Value Examiner CPE exam can now be taken online! Visit the exam. There, you will be able to purchase, complete, and earn five hours of NACVA CPE*. You will instantly receive a certificate of completion for each exam you pass. Name: Designations: NACVA Member #: Firm Name: IBA Member #: Address: City: State: ZIP: Tel: Fax: E-mail: Check #: (payable to: NACVA) or VISA MasterCard AMEX Discover Credit/Debit Card #: Expiration Date: Credit card billing address: Same, or Address: City: State: ZIP: Authorized Signature‡ Date: ‡By signing, you authorize the National Association of Certified Valuators and Analysts (NACVA) to charge your account for the amount indicated. NACVA can also initiate credit entries to your account in the event a credit or correction is due. Your signature authorizes NACVA to confirm the above information via e-mail and/or fax and to use either for future communication. NACVA will not disclose or share this information with third parties. * This exam does not qualify for NASBA QAS CPE credit. Important note: Although this exam qualifies for NACVA CPE, it may not be accepted by all state boards or accrediting organizations. Therefore, individuals should contact their state board or accrediting organization to determine if passing an exam after reading a book/magazine meets their CPE requirements. State CPE Sponsor #:_______________. How the New Leases Standard May Impact Business Valuations By Judith H. O’Dell, CPA, CVA 1. The new leases standard will be effective for private companies in: a.Fiscal years beginning after December 15, 2018 b. It is in effect now c. Fiscal years beginning after December 15, 2019 d. December 15, 2019 2. A lease is classified as a finance lease if: a. It transfers ownership of the underlying asset to the lessee by the end of the lease term b. The lease term is for the major part of the remaining economic life of the underlying asset c.The underlying asset is of such a specialized nature that it is expected to have no alternative use to the lessor at the end of the lease term d. All of the above 3. After the effective date of the standard, the initial accounting by a lessee for a new lease is: a.Recognition of a lease liability at the present value of the lease payments discounted using the LIBOR rate and a right of use asset equal to lease liability b. Recognition of the right of use asset as the total cost of the lease and a lease liability in the same amount. c.Recognition of a lease liability at the present value of the lease payments discounted using the discount rate for the lease and a right of use asset equal to the lease liability d. Recognition of an asset equal to the value of item leased and a like liability and log in to access an exam. Online exams are available for The Value Examiner issues from 2014 to current. You will be able to purchase, complete, and earn five hours of NACVA CPE* for each exam. You will instantly receive a certificate of completion for each exam you pass. Earn CPE Online by Reading The Value Examiner®! * This exam does not qualify for NASBA QAS CPE credit. Individuals should contact their state board or accrediting organization to determine requirements for acceptance of CPE credit. To learn more, please visit The Value Examiner CPE exam can now be taken online! A PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES 26 MARCH | APRIL 2020 t h e v a l u e e x a m i n e r D&R introduce a very important concept in their case by pointing out that “Ben developed an algorithm that proved immensely profitable. This algorithm is still responsible for a significant portion of Scratchpad’s business.” distributes computer software. Both the Johnsons and Scratchpad are located in New Jersey. Other facts listed by D&R to be considered in valuing Scratchpad are: Subject of valuation: Scratchpad Software, Inc., (S corporation) Business activity: Software publishing (NAICS Code 511210) Valuation purpose: Valuation of a 100 percent ownership interest in Scratchpad Valuation standard: Fair value (State of New Jersey)2 Valuation premise: Going concern Valuation date: As of December 31, 2XX5 Approaches used: Income and market Methods used: Capitalization of earnings and guideline public company The Johnsons had one child, Aubrey, who is 15 years old. They had been married twenty years. Ben and Cindy had been software engineers and they met at a previous place of employment. They started Scratchpad soon after they were married. Ben filed for divorce on December 31, 2XX5, and Cindy agreed to legally end the marriage. They also agreed to not work together at Scratchpad after their divorce was finalized. Hence, the divorce settlement provides that compensation will be paid to Ben for transferring his interest3 in Scratchpad to Cindy. She will continue to own and operate the Company. D&R introduce a very important concept in their case by pointing out that “Ben developed an algorithm that proved immensely profitable. This algorithm is still responsible for a significant portion of Scratchpad’s business.” This fact could be used by D&R to introduce the reader to the concept of intellectual property (IP), and illustrate the methods used and the issues surrounding IP valuation. I believe this could be done in a follow-up or different version of the case that could be used in more advanced valuation courses. Cindy has been both the CEO and CFO of the Company for the last fifteen years. Ben assumed more of the domestic responsibilities during this time, including most of the childcare responsibilities. D&R present Scratchpad’s financial statements—except for the Statement of Cash Flows—and selected financial ratios in an enclosure to the case. They also point out that there had been no prior stock transactions involving any ownership interests. D&R continue by presenting other relevant information for the five preceding years regarding historical inflation rates, the U.S. 20-year Treasury bond yield at December 31, 2XX5, the equity risk premium, and the small company risk premium. They also provide a narrative of various facts that would impact a company-specific risk premium and tell readers that the valuation analyst for this matter has decided on a 5 percent company- specific risk premium. D&R also introduce various items/facts that affect taxable income versus reported income for Scratchpad. They provide statutory federal and state tax rates for the reader to use. 2 New Jersey matrimonial law uses fair value instead of fair market value. The use of fair value as the valuation standard prohibits the use of discounts for lack of marketability and control. 3 D&R do not tell the reader what percentage of the company’s outstanding shares represents an equitable distribution to Ben. If the reader assumes that it is 50 percent, it would be reasonable, as the fair value standard used in New Jersey matrimonial law does not allow any discounts for lack of marketability or control.A PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES t h e v a l u e e x a m i n e r MARCH | APRIL 2020 27 The Assignment After providing a basic review of fundamental principles pertaining to the theory behind the asset, income, and market approaches to business valuation, D&R proceed to discuss various normalization adjustments to the historical income statements that are often required to prepare a proficient business valuation. They proceed to guide the reader through the steps required, along with the information needed to determine a discount factor to be used under the capitalization of earnings method, under the income approach, by using a build-up model. D&R proceed to provide the needed data from Pratt’s Stats that is used under the market approach guideline public company method using a price-to-sales model. They conclude by asking the reader to compare and contrast their findings under the two separate valuation methods, and to explain how to weight the combined percentage use for the two methods to be used to express a conclusion of value. They provide a clear and well-documented guide for a student who is new to business valuation in the matrimonial setting. Students are guided through the eight factors listed in Revenue Ruling 59-60. They are instructed on how to obtain information about the nature and history of Scratchpad, the economic outlook, book value, earning capacity, dividend-paying capacity, whether or not there is goodwill, and the remaining factors listed in Rev. Rul. 59-60. Finally, students are asked to prepare a reconciliation of value schedule and an oral report for mediation purposes. Conclusion A separate set of teaching notes are available to nonstudent member subscribers to the Journal of Forensic Accounting Research. This case provides a fundamental approach to a contemporary real-life situation for students to learn the fundamentals of business valuation. It also represents a realization in the academic literature that business valuation should be included as a significant component of a complete curriculum in forensic accounting. Peter L. Lohrey, PhD, CVA, CDBV, is an assistant accounting professor at Montclair State University. He is also the director of the Forensic and Valuation Services Department for Prager Metis CPAs, LLC, an accounting firm located in Hackensack, NJ. Dr. Lohrey specializes in commercial damage calculations and business valuation for tax, litigation, forensic, and financial reporting purposes. Email: lohreyp@ montclair.edu or VE They proceed to guide the reader through the steps required, along with the information needed to determine a discount factor to be used under the capitalization of earnings method, under the income approach, by using a build-up model.A PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES 28 MARCH | APRIL 2020 t h e v a l u e e x a m i n e r By Todd A. Zigrang, MBA, MHA, FACHE, CVA, ASA and Jessica L. Bailey-Wheaton, Esq. Healthcare Valuation Implications of COVID-19 /////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////// /////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////////// HEALTHCARE INSIGHTS As of April 13, 2020, more than 558,000 Americans had been diagnosed with the coronavirus (COVID-19)—the greatest number of confirmed cases of any country in the world—resulting in approximately 22,000 deaths.1 The COVID-19 global pandemic has brought a time of grave uncertainty for U.S. healthcare and the greater economy. Both the legislative branch and the executive branch of the federal government have taken a number of unprecedented actions in an effort to stem the effects of the pandemic. Consequently, the uncertainty surrounding the resulting paradigm changes on the U.S. healthcare industry may have significant valuation implications—both now and in the future. Recent Legislative Actions During March 2020, the U.S. Congress passed various pieces of legislation to combat both the surge in demand for healthcare services (and resulting shortages in healthcare workforce manpower and supplies) and the detrimental effects that the pandemic has had on the U.S. economy to date. On March 6, 2020, President Trump signed the $8.3 billion Coronavirus Preparedness and Response Supplemental Appropriations Act, 2020,2 which authorizes several significant activities and expenditures by the U.S. government, including the following: 1. The Telehealth Services During Certain Emergency Periods Act (TSDCEPA) of 2020, which gives 1 Internationally, confirmed COVID-19 cases have surpassed 1.8 million, resulting in over 115,000 deaths worldwide. “Coronavirus COVID-19 Global Cases by the Center for Systems Science and Engineering (CSSE) at Johns Hopkins University,” John Hopkins University, April 13, bda7594740fd40299423467b48e9ecf6 (accessed 4/13/20). 2 Pub. L. No. 116-123, 134 Stat. 146 (2020). authority to the Secretary of the Department of Health and Human Services (HHS) to lift some telehealth delivery restrictions.3 2. $6.2 billion delegated to HHS for activities such as: a. The Public Health and Social Services Emergency Fund (PHSSEF)—$3.4 billion in funding is delegated to: the Biomedical Advanced Research and Development Authority (BARDA) to research potential vaccines and therapeutics relating to coronavirus; contingency funding for vaccines and other therapeutics; and the Health Resources and Services Administration (HRSA) to provide grants under the Health Center Program. b. $1.9 billion delegated to the Centers for Disease Control and Prevention (CDC), to be directed to state and municipal response efforts relating to the pandemic and replenishment of the Infectious Diseases Rapid Response Reserve Fund. c. $836 million delegated to the National Institute of Allergy and Infectious Diseases (NIAID), for the research of therapies and vaccines. d. $61 million delegated to the Food and Drug Administration (FDA), to develop and review vaccines and other treatments for COVID-19.4 3 COVID-19’s effects on the telehealth industry will be covered in future issues of The Value Examiner. 4 Coronavirus Preparedness and Response Supplemental Appropriations Act, 2020 (see n. 2).A PROFESSIONAL DEVELOPMENT JOURNAL for the CONSULTING DISCIPLINES t h e v a l u e e x a m i n e r MARCH | APRIL 2020 29 On March 18, 2020, Congress passed (and President Trump signed) the Families First Coronavirus Response Act,5 which provides for free COVID-19 testing, paid leave, enhanced unemployment insurance, expanded food security initiatives, and increased Medicaid funding. On March 27, 2020, Congress passed (and President Trump signed) a $2 trillion economic stabilization package, the Coronavirus Aid, Relief and Economic Security (CARES) Act, that provides funds to individuals, businesses, and states. The CARES Act will also provide direct funding to the healthcare industry through a number of additional measures, including the following: 1. $100 billion to hospitals, for the purpose of reimbursing expenses and lost revenue related to COVID-19, plus an additional $250 million to increase their surge capacity. 2. A 20 percent increase in Medicare payments to hospitals related to treatment of COVID-19 inpatients. 3. A delay in disproportionate-share hospital (DSH) payments through November 2020, which will effectively increase reimbursement to those safety- net hospitals. 4. A suspension of Medicare sequestration (which will effectively increase most Medicare provider reimbursement by 2 percent) through the end of 2020. 5. Advance Medicare payments to critical access and other hospitals that request them to help balance out their cash flows (based on payments received in 2019), which may be paid back over a one-year period. 6. An extension of several Medicare and Medicaid programs until November 30, 2020, which may allow Congress to revisit certain healthcare programs and policies (e.g., surprise billing, prescription drug prices) after the 2020 U.S. presidential election. Recent Executive Branch Actions In addition to the various laws passed by Congress, the president and various government agencies have taken a number of steps to ameliorate the crisis. On March 11, 2020, 5 Pub. L. No. 116-127, 134 Stat. 177 (2020). President Trump announced aggressive measures to combat the spread of coronavirus, including the following: 1. Instructing the Internal Revenue Service to allow high-deductible health plans (HDHPs) to provide health benefits associated with testing and treatment of COVID-19 without a deductible, or with a deductible below the minimum deductible amount, without losing tax status as an HDHP, thereby allowing tax-favored contributions to health savings accounts (HSAs) by patients.6 2. Collaborating with national health insurers to cover all American patients’ COVID-19 testing and treatment, without copayments.7 3. Instructing the Department of Treasury to defer tax payments for individuals and businesses impacted by COVID-19.8 On March 13, 2020, President Trump officially declared the COVID-19 pandemic a national emergency.9 This proclamation allows for greater flexibility for healthcare providers and access to additional resources for states. Following the proclamation, the CMS issued a number of waivers for healthcare providers and announced additional measures that are active for the duration of the pandemic:10 1. The skilled nursing facility (SNF) three-day rule (which requires Medicare beneficiaries to have a three-day hospital stay before Medicare pays for SNF services) has been waived. 6 IRS Notice 2020-15, “High Deductible Health Plans and Expenses 7 “President Donald J. Trump Has Taken Unprecedented Steps To Respond To The Coronavirus And Protect The Health And Safety Of Americans,” 8 Ibid. 9 “Letter from President Donald J. Trump on Emergency Determination Under the Stafford Act,” The White House, March 13, 2020, whitehouse.gov/briefings-statements/letter-president-donald-j-trump- emergency-determination-stafford-act/ (accessed 3/17/20). 10 “CMS Takes Action Nationwide to Aggressively Respond to Coronavirus National Emergency,” Centers for Medicare & Medicaid Services, March 13, 3/17/20); “COVID-19 Emergency Declaration Blanket Waivers for Health Care Providers,” Centers for Medicare & Medicaid Services, files/document/covid19-emergency-declaration-health-care-providers-fact- sheet.pdf (accessed 3/18/20).Next >