Uncertainty about inflation, regulations and geopolitical risks abounds in today’s marketplace. A fairness opinion can protect against costly litigation if your company engages in a major transaction and the projected results subsequently fall short of expectations or insolvency becomes likely. Here’s how a fairness opinion from an independent business valuator can help protect against post-deal legal claims.

The basics

Simply put, a fairness opinion addresses whether a transaction appears “fair” from a financial point of view. Fairness opinions help confirm that dealmakers fulfilled their fiduciary duties to act in the best interests of the company and its shareholders. However, fairness opinions don’t address legal or structural fairness, nor do they constitute an endorsement or a guarantee of a particular transaction.

When preparing a fairness opinion, the expert typically estimates a range of values for a proposed transaction. Theoretically, the ceiling of this range represents the highest price a prudent buyer would be willing to pay; the floor is the lowest price a prudent seller would accept. The analysis typically presumes that neither party has been forced to buy or sell, and that both parties have reasonable access to relevant financial data.

Another proxy for the lower end of a fairness range is the amount that dissenting shareholders could reasonably expect to obtain in a statutory appraisal action. Legal counsel typically helps valuators define the appropriate standard of value.

Timing counts

A fairness opinion is valid only on a particular date. A transaction may be fair one day but unfair the next because of changing market conditions or product obsolescence, for example.

Generally, fairness opinions are performed as close to the transaction or proxy date as possible. Opinions dated too early or not updated for changing conditions may not withstand scrutiny, especially in volatile markets.

Not just for public companies

Fairness opinions may be most commonly associated with public companies undergoing high-profile management buyouts, hostile takeovers or going-private transactions. But fairness opinions have become increasingly popular among private business transactions involving complex deal structures, related parties and vocal shareholders that don’t own a controlling interest in the company.

Fairness opinions aren’t legally mandated, but they can help facilitate major transactions, such as mergers, spin-offs, stock repurchases and divestitures. Businesses that reorganize out of court or under Chapter 11 of the U.S. Bankruptcy Code may choose to obtain fairness opinions on behalf of creditors and other stakeholders. In addition, buyers and sellers use fairness opinions to support their strategic decisions and to defend against lawsuits. And some loan covenants require a fairness opinion to protect the bank’s financial interests against fraudulent conveyances.

(This is Blog Post #1553)