Fairness Opinions Research Articles

Banker Fees and Acquisition Premia for Targets in Cash Tender Offers: Challenges to the Popular Wisdom on Banker Conflicts

Our results are broadly consistent with the predictions of a benign view of the role of investment banks in advising acquisition targets. Fees to investment banks are correlated with attributes of transactions and target firms in ways that make sense if banks are being paid for processing information. The more contingent (and, therefore, risky) the fees, the higher they tend to be, all else held constant. Variation in target acquisition premia also can be explained by fundamental deal attributes. Contrary to the jaundiced view of fairness opinions, greater fixity of fees paid by targets is not generally associated with higher acquisition premia, and there is no evidence that investment banks are suborned by acquirors with whom they have had a prior banking relationship.

Information Production by Investment Banks: Evidence from Fairness Opinions

We analyze a direct product of the investment banking process: target firm valuations disclosed in the fairness opinions of negotiated mergers. On average, acquirer advisors exhibit positive valuation errors that are significantly greater than those of target advisors. Top-tier advisors produce more accurate valuations than lower-tier advisors, but we find no relation between valuation accuracy and the contingency structure of advisory fees. The stock price reactions to merger announcements and to the public disclosure of target-sought fairness opinions are positively related to the difference between target firm valuations contained in the fairness opinion and the merger offer price. We conclude that investment banks produce information not previously available to market participants through the rendering of target-side fairness opinions.

Fairness Opinions in Mergers and Acquisitions

Fairness opinions provided by investment banks advising on mergers and acquisitions have been criticized for being conflicted in aiding bankers further their goal of completing the deal as opposed to aiding boards (and shareholders) by providing an honest appraisal of deal value. We find empirical support for this criticism. We find that shareholders on both sides of the deal, aware of the conflict of interest facing advisors, rationally discount deals where advisors provide fairness opinions. The reputation of the advisor serves to mitigate this discount, while the contingent nature of advisory fees appears to have no impact. Furthermore, consistent with the criticism of fairness opinions, we find evidence suggesting that fairness opinions are sought by boards for the legal cover they provide against shareholders unhappy with the deal's terms. Thus, altogether our findings suggest that investment bankers and boards may be complicit in using fairness opinions to further their own interests at an expense to shareholders.

Merger Abnormal Returns and the Use of Independent Fairness Opinions

Using hand-collected data on fairness opinions from corporate filings, I show that acquirers that purchase independent fairness opinions outperform acquirers that purchase nonindependent opinions around merger announcements. Moreover, the amount of contingent fees that acquirers pay to investment bankers who provide fairness opinions is negatively associated with the same abnormal returns. Furthermore, acquirers with independent fairness opinions perform better in the stock markets until eighteen months after the announcement. Finally, contingent fees that acquirers pay are negatively associated with long-term operating performance. However, no evidence is found for targets except for long-term operating performance, possibly because both shareholders and investment bankers for targets share the same incentive for a higher price.

Does the Use of Fairness Opinions Impair the Acquirers' Abnormal Returns? The Litigation Risk Effect

We examine the effect of the use of fairness opinions by acquirers on acquirers' short-term market performance. Our paper is the first to examine the effect of using fairness opinions on acquirers' abnormal returns around merger announcements. We hypothesize that acquirers purchase fairness opinions to reduce their potential litigation risk. Our results are consistent with this view that acquirers with fairness opinions underperform those without fairness opinions. The effect is more pronounced in the groups with higher litigation risk. Moreover, acquirers with higher litigation risk are more likely to purchase fairness opinions from investment bankers. Our paper raises the concern over the value of fairness opinions in mergers and acquisitions.

Correspondence

The editorial by Deahl (vol 66(11), 2005, p. 608) is a reasonably fair and balanced opinion. It puts the concept of ‘Gulf War illness’ and/or ‘Gulf War syndrome’ in perspective. The independent and highly authoritative Medical Research Council review of 2003 found no evidence to support a single Gulf War syndrome.

A Reconsideration of Tax Shield Valuation

A quarter-century ago, Miles and Ezzell (1980) solved the valuation problem of a firm that follows a constant leverage ratio L = D/S. However, to this day, the proper discounting of free cash flows and the computation of WACC are often misunderstood by scholars and practitioners alike. For example, it is common for textbooks and fairness opinions to discount free cash flows at WACC with beta input Bs = [1 + (1-t)L]Bu, although the latter is not consistent with the assumption of constant leverage. This confusion extends to the valuation of tax shields and the proper implementation of adjusted present value procedures. In this paper, we derive a general result on the value of tax shields, obtain the correct value of tax shields for perpetuities, and state the correct valuation formulas for arbitrary cash flows under a constant leverage financial policy.

A Reconsideration of Tax Shield Valuation

A quarter-century ago, Miles and Ezzell (1980) solved the valuation problem of a firm that follows a constant leverage ratio L = D/S. However, to this day, the proper discounting of free cash flows and the computation of WACC are often misunderstood by scholars and practitioners alike. For example, it is common for textbooks and fairness opinions to discount free cash flows at WACC with beta input βS = [1 + (1 − τ)L]βu, although the latter is not consistent with the assumption of constant leverage. This confusion extends to the valuation of tax shields and the proper implementation of adjusted present value procedures. In this paper, we derive a general result on the value of tax shields, obtain the correct value of tax shields for perpetuities, and state the correct valuation formulas for arbitrary cash flows under a constant leverage financial policy.

Banker Fees and Acquisition Premia for Targets in Cash Tender Offers: Challenges to the Popular Wisdom on Banker Conflicts

We analyze data on fees paid to investment bankers and acquisition premia paid for targets in cash tender offers. Our results are broadly consistent with the predictions of a benign view of the role of investment banks in advising acquisition targets. Fees to investment banks are correlated with attributes of transactions and target firms in ways that make sense if banks are being paid for processing information. The more contingent (and, therefore, risky) the fees, the higher they tend to be, all else held constant. Variation in acquisition premia also can be explained by fundamental deal attributes. Contrary to the jaundiced view of fairness opinions, greater fixity of fees is not associated with higher acquisition premia, and there is no evidence that investment banks are suborned by acquirors with whom they have had a prior banking relationship.

Value of Fairness Opinions in US Mergers and Acquisitions, 1980-2002

In mergers and acquisitions opinions are written evaluations of the financial terms of offers for target firms. We use simultaneous equations logit models to identify factors influencing the probabilities of firms obtaining third-party fairness opinions. We find that probabilities are increased by asymmetric information and litigation risk as well as by a variety of uncertainty measures including market values, whether the deal is friendly or the terms are cash, and use of other financial advisory services. We find, in particular, that probabilities have been increased by the Delaware Court's Van Gorkom decision but not by the SEC's Regulation FD.

Enhancing the value of fairness opinions: Limiting risk in the post‐enron era

The NASD and the SEC are looking into methods, fees, conflicts of interest, and other issues related to fairness opinions. The fairness opinion process as currently practiced is likely to be deemed inadequate, and as such will offer less protection to boards of directors. To protect the role of the fairness opinion process as a risk‐mitigating tool, the board must changes its perceptions and expectations. The board must insist that the financial advisor help it gain a thorough understanding of all the valuation issues that impact a transaction ‐ including, for example, the appropriateness of the valuation methodologies and assumptions employed and the strategic implications of the acquisition or divestiture.

Acquirers' Abnormal Returns, Audit Firm Size, and the Small Auditor Clientele Effect

I analyze the effect of auditor choice on acquirers' market values around merger announcements and the factors affecting the interaction between auditor size and the market reaction to the merger announcements. Surprisingly, I find that acquirers audited by the largest accounting firms significantly under-perform those audited by smaller firms at merger announcements. The results indicate that the clients of the major firms under-perform the clients of the smaller firms significantly more at merger announcements if the targets are privately-held companies. There is also some indication that the small audit firm effect is more pronounced as the likelihood that the auditors play a prominent advising role in the merger process increases. These effects are significantly stronger in cash acquisitions as opposed to stock swaps and are robust to controlling for the usual factors affecting the market reaction to merger announcements and potential self-selection biases. While the major auditing firms are usually assumed to offer better services than the smaller ones, the study suggests that small audit firms have a comparative advantage in serving their clientele. The study also has implications for the small audit firms' arguments for an exemption of their merger consulting activities from the provision of Section 201 of the Sarbanes-Oxley Act that prohibits auditing firms from providing clients appraisals, valuations and fairness opinions.

Fairness Opinions: How Fair Are They and What Can Be Done About It?

Fairness opinions are a regular feature of every major corporate transaction. We analyze the conflict of interest problems that afflict fairness opinions and the extent to which courts should give weight to such opinions.

Fairness Opinions under German Law

Fairness Opinions under German Law

Auditors' Predisposition to Provide Fair Judgments: Australian Evidence of Auditors' Level of Moral Reasoning

Auditors have a responsibility to provide fair and independent opinions about managemenfs preparation of company financial statements. This study examines auditors' predisposition to provide just and fair judgments, using Kohlberg's theory of developmental moral reasoning, one of the most widely accepted theories in justice psychology. The results indicate that a majority of auditors have the predisposition to act fairly, particularly when faced with an ethical crisis. A smaller number are likely to act in their own self‐interest and do the right thing only to avoid punishment. These auditors have the ability to “do deals” and, when faced with an ethical crisis, may tend to focus on their own needs at the expense of others.

Fairness Opinions and the Business Judgment Rule an Empirical Investigation of Target Firms' Use of Fairness Opinions

This paper examines the effect of the Smith v. Van Gorkom decision on the frequency of use of fairness opinions and the portion of financial advisor revenues that are earned from fairness opinions. There is an initial increase in the use of fairness opinions immediately following the decision. However, that initial increase is not sustained; overall, the average number of target firms utilizing fairness opinions post-Van Gorkom (58%) is essentially that same as the percentage pre-Van Gorkom (57%). Also, the protection from liability Van Gorkom gave to boards and the increased potential liability facing issuers of fairness opinions has not resulted in a significantly greater portion of advisory services industry revenues being earned from fairness opinions. However, the portion of revenues earned from advisory services has increased dramatically.

Equity Valuation Models and Measuring Goodwill Impairment

Views Icon Views Article contents Figures & tables Video Audio Supplementary Data Peer Review Share Icon Share Twitter LinkedIn Tools Icon Tools Get Permissions Cite Icon Cite Search Site Citation AAA Financial Accounting Standards Committee; Equity Valuation Models and Measuring Goodwill Impairment. Accounting Horizons 1 June 2001; 15 (2): 161–170. doi: https://doi.org/10.2308/acch.2001.15.2.161 Download citation file: Ris (Zotero) Reference Manager EasyBib Bookends Mendeley Papers EndNote RefWorks BibTex toolbar search Search Dropdown Menu nav search search input Search input auto suggest Search

Heavyweight Class

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The Audit Expectation Gap in Singapore: An Empirical Study of Company Audit Objectives

To study the audit expectation gap, a survey questionnaire listing 13 possible company audit objectives was administered to 500 auditors and 500 non‐auditors in Singapore. The overall response rate is 48.7% (i.e., 487). ANOVA and multiple comparison (SNK) results show that auditors perceive significantly more strongly than non‐auditors that giving a true and fair opinion and providing aid and advice on accounting matters are important and appropriate company audit objectives. On the other hand, non‐auditors perceive significantly more strongly than auditors that detecting and preventing major errors, fraud or illegal acts; satisfaction of the requirements of authorities; and ensuring the accuracy of financial accounts are important and appropriate company audit objectives. Overall, it can be concluded that an audit expectation gap with respect to company audit objectives exists between auditors and non‐auditors and that the latter place a significantly greater demand on audits and auditors than what auditors themselves perceive their roles and responsibilities to be.

Fairness and Solvency Opinions

This presentation comes from the Valuation of Closely Held Companies and Inactively Traded Securities conference held in Chicago, Illinois, on December 5, 1989.