In defense of fairness opinions: an empirical review of 10 years of data

By Chris Janssen, Global Head of Transaction Opinions, Duff & Phelps

Most fairness opinions — the professional analysis and opinion about the fairness of a price offered in a proposed merger or acquisition — use a robust set of methodologies to produce a useful range of valuations, according to Duff & Phelps’s study of more than 3,000 publicly disclosed fairness opinions.

Those conclusions disprove periodic criticisms that fairness opinions generally provide little utility for boards analyzing potential transactions.

Specifically, some critics have asserted that fairness analyses produce valuation ranges too wide to provide meaningful information, and that because most fairness opinions are based in part on DCF analysis, the opinions rely too heavily on financial projections that have been produced by management and left unscrutinized by the fairness adviser.

In an effort to examine those criticisms and assess the overall usefulness of fairness opinions, Duff & Phelps conducted a thorough analysis of more than 3,000 fairness opinions filed with the SEC during the 10 years ended in 2016.

We agree that narrower valuation ranges are intuitively more useful to boards than wider ranges. Some deals, however, are likely to produce wide ranges because the companies themselves are difficult to value.

The real question is whether wide ranges are pervasive. And while we would also agree that relying solely on DCF analysis that uses projections company management has fed to the fairness adviser can be problematic, the follow-up should be to ask: Is that really happening?

Our analysis showed that on average, fairness opinions offer valuation indications that fall within 15 percentage points on either side of a midpoint, a standard that can serve as a benchmark for comparison. If a fairness opinion’s estimate falls outside the average valuation range against the offer price for similarly sized deals, managers and directors should be empowered to ask more informed questions, which can only improve the process of deliberating a purchase offer.

Among deals we analyzed that carried a value of $10 billion or more, DCF analyses produced average price ranges between 78 percent and 106 percent of the offer price. The average range widened only slightly for deals valued at less than $10 billion but more than $100 million.

For deals valued at less than $100 million, DCF analyses produced wider average price ranges, between 65 percent and 105 percent of the offer prices. This reflects the heightened complexity involved in valuing enterprises that are less mature, have less historical data to analyze and compare, or might be growing at a rate that makes future cash flows difficult to estimate.

The findings also present clear signs of an industry standard at work among fairness-opinion advisers. Counter to the criticism that fairness opinions rely too heavily on DCF analysis, we find that fairness advisers have been using multiple methodologies for some time. Of the fairness opinions we reviewed, 91 percent used more than one methodology to arrive at valuations. In 75 percent of the deals, advisers used three or more methodologies.

We argue that the use of multiple valuation methodologies also significantly mitigates the criticism that the opinion could be too heavily influenced by unrealistic company projections.

The common pairing of public-company comparables and/or precedent transactions with DCF analyses, often supplemented by one or more additional methodologies, demonstrates that in the vast majority of cases, fairness opinion advisers consider multiple perspectives and relevant analyses, when available, in assessing the fairness of transaction prices.

It also dispels the notion that fairness advisers do not scrutinize management projections. Simply put, if the DCF analysis produced a valuation range that bore little resemblance to a range of values derived from other methodologies, it would be the first clue that something might be amiss and thus warrant a closer look.

In 43 percent of the filings we analyzed, fairness-opinion advisers used multiple cases of DCF analyses. The frequent use of multiple DCF scenarios indicates that advisers are considering every potentially pertinent projection, rather than simply accepting a single set of forecasts.

In addition, the presentation of two (or more) DCF scenarios is likely the result of a growing judicial emphasis — via suggestion and mandate — on disclosure, as companies today are less likely to pick and choose which projections to disclose than they were a decade ago.

Though fairness opinions are standard practice, critics periodically question their efficacy and usefulness. The criticism often surfaces in the wake of particular transactions where there is public disagreement on the deal price or controversy surrounding the fairness analysis, which generates widespread headlines.

Our analysis indicates that fairness advisers use robust, sophisticated methods to reach valuation opinions. Furthermore, the majority of fairness opinions deliver a range of valuations that is sufficiently narrow to serve as a valuable tool for evaluating purchase offers. From this we can conclude only that broadly speaking, fairness opinions represent a reliable way for corporate boards and executives to evaluate purchase offers.

Duff & Phelps is the New York-based global valuation and corporate finance adviser with expertise in complex valuation, disputes and investigations, M&A, real estate, restructuring, and compliance and regulatory consulting. Photo of Chris Janssen courtesy of the firm.