FMV

The current economic recession has had a profound adverse impact on many businesses. So, in cases where we are asked to value businesses on a valuation date prior to the recession, how can we ignore what we know will happen? One of my favorite lecturers, Mel Abraham, answered this question in the BVResources newsletter this month by recalling an interaction he had with a California judge a few years ago. In that case, the business had lost its largest (60%) client six months after the valuation date, and Abraham had factored the risk of client loss into his discount rate and DCF calculations. When the judge argued that this was a subsequent event, Abraham agreed but countered, “The loss of the client was definitely a subsequent event, but the risk of losing the client was known and knowable as of the date of valuation.” Looking back to valuation dates, particularly in mid-2008, you cannot include loss of revenues or other damages that actually occurred as the result of this current economic downturn, he added. However, conditions known as of the valuation date (like heavy leverage, declining assets, or other high-risk indicators) could, should, and would have been known or knowable even prior to the stock market meltdown.

The Alabama Court of Appeals recently issued an opinion in Grelier v. Grelier, holding that the parties’ agreement to employ the fair market value standard in a divorce case precluded wife from arguing on appeal that the trial court should not have applied marketability and minority discounts.

In Grelier, the parties appointed a neutral expert to determine the value of the husband’s business, a retail and commercial real estate development company. The husband owed a 25% interest; his father, brother and college roommate owned the other interests. The consent order appointing the expert specified that he would determine the fair market value of the business. Husband and Wife each hired independent experts to offer their opinions of value as well.

The court-appointed expert testified that marketability and minority discounts should not be applied to the husband’s interest in the real estate business, but the opinion does not reveal why. Wife’s expert testified that the court-appointed expert’s valuation was flawed because it relied on out-dated appraisals and verbal statements of value but agreed that discounts should not be applied. Husband’s expert testified that a minority interest discount was appropriate because the wife had not proven that the husband had a right to act independently from the majority stakeholders; and that a marketability discount was standard practice when determining the FMV of close corporations. Husband’s expert suggested a 25% minority discount and 25% marketability discount, but the trial court reduced the combined discounts to 40%.

On appeal, the wife argued that the trial court should have utilized the fair value standard instead of FMV; and that the minority interest and marketability discounts should not have been applied. The Alabama Court of Appeals held that the wife’s argument was waived for failure to raise it in the trial court, where she had consented to a FMV standard in the order appointed the expert. Moreover, the appellate court held that the trial court had not abused its discretion in applying the discounts to arrive at FMV.