Professional opinion versus mathematics for enhancements and impairments.
We worked on a particularly interesting way of verifying our professional opinion recently. The crux was a growth risk impairment based on a high growth company moving into a new, slower rate of growth as it turned into a mature company. We know, based on our team’s extensive experience, that this type of impairment should sit in a band of 10-25%, but the question was how to verify it?
As you may know, the IRS is highly likely to scrutinise enhancements and impairments where they are based solely on professional opinion; we use a similar approach with valuations that the IRS will see as for the ones HMRC will see. Essentially, we prove everything we claim by using the correct data and academic research. (And of course, we make sure that prior to addressing that issue, we have understood the correct rules of engagement for the scenario, so where there’s going to be a tax event, everything is precisely correct).
Having established the need, you’re probably wondering about the how. Comparing the company’s expected CAGR with its peer set is necessary to assess its projected growth relative to the industry in which it operates. If the comparatively lower CAGR is determined to be due to structural reasons, rather than temporary commercial factors or offset by better margins, the implied structurally lower growth would warrant an impairment to the multiples obtained from the peer set.
The only rub that can occur is where a company is still outperforming its peer set and it can be necessary to think deeply about which industry the company really does operate in…
After all, a company like BMW is not an AI company but is investing in developing AI within the BMW group. It would be appropriate to consider both the automotive motor market CAGR and automotive artificial intelligence CAGR if we were valuing BMW and considering a growth impairment in relation to our theoretical slowing growth.
If you have a client which has a gnarly situation where the obvious application of an enhancement or impairment would be wrong and a more intellectually subtle approach is needed, why not call us to have a chat. We are always happy to see if we can help.
