February 2009 Newsletter

Investigating Insolvency

We have been retained by plaintiffs in several unrelated cases where the solvency of the defendant has been asserted as the reason not to post a supersedeas bond or to discourage collection efforts. In all cases, a solvent parent company has been funding the defendant through an intercompany account (an account that reflects payments to and from an affiliate). We have analyzed these intercompany accounts to explain the nature of the advances, answer questions related to alter-ego factors and provide testimony to assist the trier of fact in determining the actual solvency of the defendant. This work has included testimony regarding affidavits of insolvency and financial statements offered by the defendant. We can provide specific suggestions to discovery when a subsidiary is alleged to be insolvent, including identification of and detail from the intercompany account and related third-party records. Our public record work product is available upon request by contacting Jeff Compton at 713-351-7110.

Mexican Arbitration

Our three recent experiences with arbitration involving Mexican entities have emphasized the importance of Mexican FRS (a variation of International Financial Reporting Standards) so that the substance as well as the form of transactions may be understood. We have also learned the prevalence of outsourced accounting functions and the importance of obtaining information from the outsourcing firm. A useful primer on Mexican accounting standards may be found here. Additionally, one may wish to consult this document. Please contact Jeff Compton at 713-351-7110 if you would like more information o llame por favor a Ryan Stevens en 713-351-7191.

ASARCO v. Americas Mining Corp.
Civil Action No. 1:07-CV-00018 Asarco LLC, Southern Peru Holdings, LLC vs. Americas Mining Corporation

On August 30, 2008 a federal court in the Southern District of Texas issued its opinion in ASARCO v. Americas Mining Corp., in which ASARCO, a Chapter 11 debtor, tried to recoup the sale of its 54 percent controlling interest in a Peruvian copper concern from its parent. We offer our version of the valuation rulings by that court.

The court consistently favored variables that fell within a reasonable range of each expert's opinions. For example, the court found that the Fama-French method for calculating a discount rate of 13.4 percent was less appropriate than a discount rate of 9 percent, which fell in the 9 - 10 percent range of discount rates derived from the Capital Asset Pricing Model ("CAPM"). Interestingly, that difference in approach sparked dueling Daubert motions, which the court dismissed on the grounds that different methods affect the weight, not the admissibility, of the evidence, as evinced by its conclusion.

Also worthy of note, the court favored the use of a trailing average in stock price valuation because of the volatility of the stock and its uncharacteristically low value on the date of the transfer. It upheld the use of a market approach as a sanity check against stock and discounted cash flow ("DCF") valuations because a willing buyer would be likely to consider it. Furthermore, the court opined that a downward adjustment to the market approach was not necessary because risk was accounted for in the comparable companies' betas and other numbers, making any further assessment "arbitrary and speculative."

In similarly logical fashion, the court approved a 20 percent control premium, stating that the risk of the founders buying a controlling share was relatively low and that any distinction between synergies and control was misplaced because a buyer wouldn't "mechanically" separate the reasons for paying a premium. The range of control premiums suggested was 7 - 39.5%.

As such, the court placed the value of the interest between $811.4 and $853 million. ASARCO had received $727.8 million from its parent for the transfer. According to the court, this difference was "not substantial" because leading cases had articulated 70 percent as the threshold for reasonably equivalent value. In contrast, this consideration comprised approximately 85 - 90 percent of the value transferred.

New DLOM Labels

Anything liquid (able to be turned readily into cash) has to be marketable, but the reverse is not necessarily true. For example, a 100 percent controlling interest in a private company is generally marketable, but not liquid. Likewise, real estate is marketable yet illiquid because it takes time to turn a parcel of real estate into cash by selling it.

Accordingly, the term "marketable illiquid" should be considered with "liquid" and "nonmarketable" in the assessment of liquidity and marketability. Examples of the application of these terms would be:

  • Public stock - liquid
  • Controlling interest in a private company - marketable illiquid
  • Minority interest in a private company - nonmarketable
  • Real estate - marketable illiquid
  • Machinery and equipment - marketable illiquid
Such labels should take into consideration the degree of marketability of the assets to account for situations such as "hot" markets. Conversely, nonmarketability does not assume the asset cannot be sold, only that it is usually difficult to do so under normal conditions.

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