FAQs About Fairness Opinions

Fairness opinions can help achieve shareholder and lender buy-in for your M&A plans. They can also preempt lawsuits, because managers and directors who obtain fairness opinions demonstrate that they acted in good faith, without fraud or any conflicts of interest and in accordance with the business judgment rule. Here are some questions about fairness opinions today.

What Is a Fairness Opinion?

A fairness opinion provides an independent, objective analysis of a proposed deal. After looking at pricing, terms and other considerations, the expert expresses a formal written opinion about whether the transaction appears to be “fair” from a financial point of view to all parties involved.

A fairness opinion letter typically describes the opinion’s scope, including the:

• Procedures completed,
• Sources used, and
• Assumptions made by the expert.

Review the information underlying the opinion carefully. An expert’s conclusion is only as reliable as the data and assumptions upon which it’s based.

In a fairness option, value is typically expressed as a range of values, rather than a specific dollar value. To arrive at this range, valuation experts consider, as with other business valuation assignments, the cost, market and income approaches. But estimating fairness can be especially challenging if a deal includes earnouts or noncash terms, such as stock-for-stock transactions.

A fairness opinion isn’t an endorsement of the company’s planned course of action or an affirmation that its strategic decision is better than other investment alternatives. More importantly, obtaining a fairness opinion is never a substitute for professional legal advice or comprehensive due diligence by the M&A parties.

When Can a Fairness Opinion Help?

Courts generally look more favorably upon managers and directors who obtain fairness opinions before making major strategic decisions. And some banks may request fairness opinions before agreeing to finance M&As. Whether you need a fairness opinion depends largely on your company’s ownership and the ease of the deal. If both companies are privately owned and negotiations have run smoothly, there’s probably little need to spend time and money on a fairness opinion.

However, not all M&As are so simple, and there are circumstances where a fairness opinion may be called for. For example, if the deal is a hostile takeover, a fairness opinion is all but mandatory for the seller. And public company sellers should consider one if they’ve received several competing offers. Shareholders could sue if their company doesn’t accept what appears to be the most lucrative offer.

Other reasons for getting a fairness opinion include:

Multiple players. Are there several owners or buyers involved, such as private-equity firms or minority shareholders? The more parties at the table, the greater the need to ensure that the deal is equitable for all of them.

Contentious negotiations. Have there been ongoing disagreements among owners about terms and valuations? Conflicts now can easily lead to litigation later. A fairness opinion helps to show that the parties have made a good-faith effort to strike a fair deal.

Company history. Does the buyer have a history of poor financial performance or trouble obtaining financing for acquisitions or integrating them? A fairness opinion could reassure a wary seller.

Although a fairness opinion can help when a transaction is complicated or contentious, it’s neither required by law nor legally binding. If an outside expert concludes that a deal is “unfair” from a financial perspective, it may be renegotiated. Or the parties may decide to walk away from the deal entirely.

Who’s Qualified to Assess Fairness?

A fairness opinion is just that: one advisor’s opinion. Investment bankers may seem like a logical choice to provide this service to clients, because they’re already familiar with the company and the deal’s terms. But the price-based success fees that investment bankers receive at closing may compromise their perceived objectivity.

A fairness opinion expert should have no interest in the companies involved in the transaction, including financial ties to any of the company’s managers or directors. Many companies hire independent business valuation professionals to provide fairness opinions. It’s also important to select an expert with experience testifying before judges and juries, because many of these deals wind up in court.

Fairness Opinions for SPACs

A special purpose acquisition company (SPAC) is a type of shell company without operations that raises capital publicly for the sole purpose of identifying and merging with a target private operating company. Over the last two years, SPACs have become popular, because they expedite deals and provide a predetermined price.

A SPAC registers redeemable securities for cash, sells them to investors, and puts the proceeds in a trust for a future acquisition of a private operating company. Upon finding a target private company, the SPAC merges with it, completing the deal.

SPACs have come under scrutiny from the Securities and Exchange Commission in 2021, because many have restated their financial results post-merger. In general, financial restatements can be a red flag of potential impropriety.

The flood of SPAC financial restatements led the SEC’s Investor Advisory Committee (IAC) to recommend more robust disclosures of the role of the SPAC sponsor. The IAC would also like more detailed information about any potential conflicts of interest on the part of the sponsor and other insiders and any divergent financial interest of the sponsor relative to that of the investors in the SPAC. Additionally, the IAC wants disclosure of pre-merger due diligence by the sponsor, along with plain English disclosures in the registration statement about the economics of the various participants in a SPAC process.

When a SPAC merger falls short of expectations, the SEC may investigate the deal or minority investors may file suit, especially when conflicts of interest or divergent financial interests exist. Fairness opinions may be used by SPAC sponsors to help demonstrate that a deal appeared to be “fair” from a financial point of view — or by investors to show that the pricing and terms weren’t fair.

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