In 2005 the "Business Judgment Rule" was incorporated into the German Joint Stock Corporation Act [Aktiengesetz, AktG] – this provision manifested itself in the form of the "fairness opinion" in M&A practice (mergers & acquisitions practice). It makes it easier for management, in particular at publicly listed companies, to prove the fulfillment of the due diligence duties in accordance with section 93 of the German Joint Stock Corporation Act [Aktiengesetz, AktG] to shareholders and other stakeholders. This is important in particular if the valuation of the company in the course of the acquisition or sale of a company was prepared by an interested party such as an investment bank, a corporate finance advisor or, under some circumstances, the company's own M&A department. As a result, the fairness opinion is to be understood as a statement or a report by an independent expert to assess the reasonableness of an offer price.
Calculating Fairness Opinion
Different than a typical valuation process, the fairness opinion is not intended for determining the "right" transaction price such as the exact price of a stock. Rather, it estimates a range of possible transaction prices. If the specific offer price is located within the range, it is qualified as fair. The value of a company is thus documented in its current situation for verification purposes to rule out liability.
Reasons for a Fairness Opinion
- Management buy-outs
- Independent valuation for a corporate acquisition (2nd opinion)
- Corporate M&A transactions - acquisition and sale
- Acquisition and sale by private equity or venture capital investors
Valuation Processes & Preparation
In the preparation of a fairness opinion, we use the well-known German standards published by the Institute of Public Auditors in Germany [Institut der Wirtschaftsprüfer, IDW] or the Deutsche Vereinigung für Finanzanalysten GmbH [German Association for Financial Analysts]. Usually, multiple methods are used to determine the range of offer prices (IDW S8 or DVFA standards). First approach for valuation: Regularly different corporate value multiples. The possible price of a target company is estimated on the basis of comparable transactions or exchange prices of comparable companies in the same industry. Various key metrics are used to estimate the first range with the aid of these multiples. The second step usually involves the significantly more complex discounted cash flow method – multiple scenarios are derived from the corporate planning. The capital costs of the company are usually calculated on the basis of the generally recognized capital asset pricing model, with recourse to capital market data. A range of possible corporate values is calculated in turn on the basis of the planning scenarios and the capital costs. Ultimately, the results from the discounted cash flow and multiple methods are compared with the submitted offer price. If this offer price is within the calculated range, it is qualified as fair.
Results of the Fairness Opinion
The results of the valuation are divided into two parts. In the so-called opinion letter, the expert just makes a statement on the value in general, on the methods used for determining the reasonable value, and ultimately also whether a fair transaction price is being offered. The opinion letter is published at capital market companies. The opinion also simultaneously serves as a communication instrument for critical shareholders. The valuation memorandum is not publicly accessible – this includes the documentation regarding the determined corporate valuation bandwidths, the corporate planning, and consequently competition-relevant data. For the respective corporate board, it is necessary to understand and check the valuation concept here. Only in this way will the requirements under the business judgment rule and section 93 of the German Joint Stock Corporation Act [Aktiengesetz, AktG] be satisfied with regard to documentation of the fulfillment of due diligence duties.
Fairness Opinion – a Service Provided by FAS AG
FAS AG brings wide-ranging expertise and many years of experience to the preparation of an independent fairness opinion and subsequent consulting, particularly with regard to the sale or purchase of a company.