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Company Valuator

An exclusive monthly news report for private company CEO's
January 4, 2006
Sign of the Times
Did You Know
Ask the Expert
Market Stats
Helpful Links
Quote of the Month:

"If a corporation has two executives that think alike, one of them is unnecessary."

????????? ---Ray Kroc, McDonald's Founder

Sign of the Times

A monthly market commentary

“M&A Is HOT Even Though Stocks Are Not”

And that's a puzzle that would probably intrigue most U.S. investment bankers--but with so many deals being done and several?coming to market, everybody is too busy. The mergers-and-acquisitions marketplace is enjoying its best year since 2000, thanks to a flurry of acquisitions, combinations, divestitures and buyouts. But the U.S. stock market ended up with its worst year since the bear market of 2000 to 2002.

That disconnect is unusual. Historically, big waves of M&A in the United States have coincided with rising stock prices.

This was the case with the conglomeration wave of the 1960s, the leverage buyout boom of the 1980s and the strategic buyer frenzy of the 1990s as highflying stocks--or a giddy market's appetite for junk bonds--provided currency for deals.

But it's plain and simple not happening today. The 2005 M&A market is up over 35% from 2004, making it the best year long showing in the last 5 years.

Yet the stock market is lower. What's going on?

Experts say a number of factors are contributing to the dealmaking--from the generosity of lenders to healthier balance sheets among both acquiring and target companies.

But the primary force driving the countercyclical--and counterintuitive--burst in deals is the explosive growth of private-equity firms, which have raised record amounts of money and taken advantage of attractive borrowing costs.

Basically, the combination of the tremendous liquidity of the financial sponsors and the favorable conditions in the leverage finance market--both leveraged lending and high-yield, have made the deals possible.

What's more, private-equity investors have learned to play nicely together, and it's not unusual them to team up in "club deals"--some small and some large in composition.

From of the perspective of successful companies charting their investment opportunities, those with high cash flows find themselves hard pressed not to want to acquire other companies for potentially higher returns. Where companies may have put excess cash into Treasury bills before, the less than attractive interest rates are a turn off.

Indeed, private-equity firms' increased heft may constitute some kind of fundamental change. In the past, the paradigm-shifting changes--a disruptive new product, a change in consumer buying habits, a new regulatory framework (sigh..Sarbanes-Oxley)--were generally confined to the industries or regions where the deals were getting done.

Now the strategic turbulence that fuels these changes has spread throughout the M&A industry itself, where the private equity firms and buyout shops are "changing the business".

Did You Know

“Personal Goodwill (what's that??) vs Corporate Goodwill”

Personal goodwill is a relatively new concept in the area of tax authority. It was given life in a court case not long ago. In this case, the owner of a C corporation desired to sell the business to another person by means of an asset sale. Facing the detriment of being taxed twice on all of the assets (once at the corporate level and once at the personal level), the owner and his counsel invented the concept of personal goodwill. In a dispute with the IRS in court concerning the concept of personal goodwill, the court reaffirmed personal goodwill's existence.

Normally goodwill is attributable to the company itself, but personal goodwill is different. Personal goodwill is goodwill attributable to the owner and not the company. This type of goodwill comes through personal relations, personal knowledge, and other intangibles based on the owner of the business.

When selling an S corporation, partnership, sole proprietorship, or other pass through entity through an asset or stock sale, ordinary goodwill does not present any problems. The sale of the goodwill gets taxed once at the seller's level as a capital asset. The rate on the gain is presently 15%.

However, when selling a C corporation through an asset sale, ordinary goodwill creates potentially a tremendous tax burden that is not present during a stock sale. During the sale, ordinary goodwill is taxed at the corporate level. Since C corporations do not get the benefit of the lower capital gains tax rates, the capital gain is taxed at the corporation's ordinary rate. This rate can be as high as 39% at certain income levels. Once ordinary goodwill is taxed at the corporate level, it is given to the seller usually in the form of a dividend distribution. When given to the seller, it is taxed at a dividend rate of 15%. This means that of every $100 given to the selling corporation as part of an asset sale, potentially $48 of it will be paid to the federal government as taxes. In addition, there are state taxes to consider-California, an obvious example.

When a seller is in the position described above, it is most advantageous to split personal goodwill off from other goodwill. During the asset allocation, assets are assigned values. There will be value given to the inventory, equipment and among other things, goodwill. During this phase, the seller must include a provision stating that some of the goodwill being sold is personal goodwill. This amount should be based on a reasonable and objective estimation of the two values while keeping in mind more personal goodwill means less taxes, but also raises the potential of the amount being lowered on an audit by the IRS.

The bottom line is that, when appropriate, personal goodwill can provide large tax savings to taxpayers. Since this is a newer concept not widely used (yet), it is important that the allocations to personal goodwill be reasonable and objective as there is not much guidance through cases to date.

Ask the Expert

“Rose Bowl 2006...PREDICTION...USC 48 Texas 17”

Yes, that's my call--and if you have a beef with that, well,?get in line! It's an Matt Leinart, Reggie Bush (both Heisman winners)?day---and it's home for USC. Notwithstanding that, Vince Young (Texas QB) is an awesome player/leader but this day is reserved for the Trojans.

Just in case USC has to "fall back" on other offensive?players, look no further than LenDale White. Who? LenDale White-21 touchdowns, 1,200 rushing yards this year. Unfortunately for White, academic problems early in the?year (yes, there is respect for academics at USC)?forced him?to miss spring practice where he ended up losing the starting role to Reggie Bush.

Not everyone agrees with me---including my own brother---the heretic--both he and I are alumni of Matt Leinart's high school (incidentally, our esteemed high school out of Southern California has 2 Heisman Winners, Leinart last year and John Huarte of Notre Dame in the late '60s). Anyway, my brother is an architect. What could he possibly know about football????

Any Super Bowl predictions out there?

In the remote event I am wrong, well, it's evidence that we call experts "experts" for that very reason. There are those that might call me an M&A middle market expert, but I've yet to hear that on my sports predictions. Well, tonight we find out. 5PM PST

Market Stats

“Top 25 CEO Brand Leaders of 2005”

Well, here you agree?

1) Steve Jobs, Apple Computer

2) Jim Donald, Starbucks

3) Kevin Rollins, Dell Computer

4) Meg Whitman, eBay

5) James Ziemer, Harley-Davidson

6) Fred Smith, FedEx

7) Jeff Bezos,

8) Gary Kelly, Southwest Airlines

9) Richard Branson, Virgin

10) Bill Perez, Nike

11) Eric Schmidt, Google

12) Robert Ulrich, Target

13) E. Neville Isdell, Coca-Cola

14) David Neeleman, JetBlue Airways

15) Michael Eisner, Walt Disney

16) Kenneth Chenault, American Express

17) Patrick Stokes, Anheuser-Busch

18) Steve Ballmer, Microsoft

19) Helmut Panke, BMW

20) H. Lee Scott Jr., Wal-Mart

21) A.G. Lafley, Procter & Gamble

22) Jim Skinner, McDonald's

23) Ralph Lauren, Polo Ralph Lauren

24) Mike Eskew, UPS

25) Bill Marriott Jr., Marriott

Helpful Links


If you're a mid market CEO, an M&A attorney, a CPA working with privately held companies, a wealth management specialist, a financial expert---all those valuable resources that need to work together when a company is "in-play", then when is the last time you visited our own website

Lots of info on selling, merging and being acquired as it relates to middle market companies. There are articles we authored that were featured in Business Week (2004)?and USA Today (2005). There is a lot of collateral information in general that can be helpful whether you are a CEO, a service provider, or an acquirer. We look forward to a fabulous 2006--improving on an impressive 2005---and we THANK YOU for all your support during 2005. Please let us know how we can help?YOU in 2006.


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