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Trend Awareness

September 16, 2014

Last week, articles in The Wall Street Journal about GE and Berkshire Hathaway indicated a trend that may or may not be important.  What the trend is, is not the issue.  The point I want to make is that opportunities for awareness and sensitivity to changes and trends are constantly in front of us.

There was an apparent trend.  It was mentioned that GE’s revenues are now 40% from energy; and Berkshire has 40% of its revenues from utilities.  Both companies are cutting edge and they have invested heavily in “boring” non-tech, non-health care industries.  Something is up.  Is a trend getting started or has it matured latently?

Can the knowledge of trends help us?  Possibly for working people, entrepreneurs, new venture investors, inventors, government leaders, educators, managers of not-for-profit organizations and others.  But, I am not so sure it helps in making investments in the stock market.

We don’t “buy stocks.”  We invest in companies we hope will grow profitably.  Current profits are important but so is expected growth, probable profits and dividend potential.  How expectations materialize and whether they are reasonable or off-target are conjecture but knowledge about the company, its industry, innovation and trends can help make a decision.  Reading news stories and then thinking about what you read is one way.  Additional elements of investing are to have the time to devote to this activity, the knowledge in myriad essential disciplines, the skill to construct a portfolio that will have some balance and provide reasonable risk, and the ability to apply everything to make a decision of what and when to buy and also when to sell, rebalance or prune your portfolio.

In terms of investing, I don’t believe individual investors can get enough of the right information, if it exists, and then be able to properly analyze it.  I also believe that once five different stocks are invested in, the investor has created a fund that will perform substantially the same as the group they were selected from.  For that reason, I recommend mutual funds, with the mutual funds of my choice being the major index funds.

Awareness of incipient trends is necessary for most things you will do, but for the average stock market investor I do not believe it will lead toward great wealth or above average returns.

Business Focus

September 11, 2014

GE is selling its electric appliance business and abandoning a highly visible but somewhat profitable segment.  The heading in Tuesday’s Wall Street Journal declared that GE is narrowing its focus.

The article asks “What is GE?”  What GE is, is not important to this discussion; what is important is the emphasis placed on focus.  Many businesses are not focused, do not have a clear identity, have management whose energies are diffused and fragmented and a confused customer base about the company identity with diminishing brand values.

Companies of all types and sizes add divisions, brands and products trying to grow, obtain greater market share, and cross pollinate customers to get more of their purchase dollars.  Many times, the end result is not clear other than to get bigger.  In a larger sense the end result should be to make more money, and be a more secure company with a sustainable future.  I believe this is usually overlooked because it is a long-term outcome that thwarts the “importance” of the short-term chase.

GE is an old company that is growing and has morphed into a completely different company than its founders which included Thomas Edison, imagined.  With imaginative leadership, its growth went where opportunities led.  Its leaders were alert to innovation and creatively applied it to growth and company identity evolution.  Along the way its large size had to divert its leaders’ attention from everything except the most immediate profit contributors.  The original core became a drag on overall growth and in reshaping the company, and diminished the big picture focus needed to continue growing.

Divestment of less profitable or slower growing segments is a smart way to monetize some assets while allowing better and truer focus on the larger parts of the business permitting a clearer focus on future growth.

You do not have to be a GE to have this apply to your business or not-for-profit organization.  Critically examine your product lines, your customer base, your human resource allocation, your greatest and least profitable segments and those requiring the most attention, infrastructure and/or financing.  Also examine your core capabilities and activities, whether and how your customers identify with your organization and pinpoint any growth inhibitors.  Then, consider doing what GE did and get out of the drags.  Size is not what creates value and sustainability and does not equate to cash flow which is what will really create long term health and value. 

GE is not the only “mega-large” company going through this process, but its recent action precipitated these thoughts and comments.  Use the above as a starting point to examine and possibly simplify your organization, add value and allow the right focus.


Are Derek Jeter’s Gifts Taxable?

September 9, 2014

Derek Jeter made the rounds receiving gifts from each team he played against this year.  The Yankees ended up providing the grandest of prizes on Sunday.  Question: Are these gifts taxable to him?

For starters all gifts to his Turn 2 Foundation, Inc. are tax deductible as charity contributions by the payer and not taxable to Derek.  The Foundation is a qualified charity and operates in accordance with IRS regulations.

If the gifts to Derek were completely gratuitous, then they would not be taxable to him.  However, they would also not be deductible by the teams making the gifts.  Actually, $25 would be deductible since that is the limit for business gifts, but that’s it.

If the gifts were made in the expectation that services would be provided by Derek, then they would be taxable as compensation and fully deductible by the teams.  The taxable income would be determined by the value of what Jeter received.  Old stadium seats, framed patches and game tickets and other items that had no or minimal cost to the team would still be valued and that is the amount Jeter would be taxed on. 

It would seem that the gifts were payment in conjunction with the promotion of Jeter being there to receive the gifts.  This looks like work to me, so he would be taxed on what he received.  He would also be subject to state taxes where the paying team was located.

If Derek decided to keep the gifts, then it ends there.  However, if he donates them within a year, to a museum or other public charity, he would get a tax deduction for either the lesser of his cost, i.e. the amount he was taxed on, or the value at the time of the donation.  However, if the donation was made more than a year after receipt, and the property was considered as either a capital asset or a collectible, then he could get a tax deduction equivalent to the value at the time he made the donation (provided the organization he gave it to retained the property in its collection or for its use.)  If the charity sold the property pretty quickly (within at least three years), or had it offered in a “charity” auction, then his deduction would be treated the same as if he donated it within a year after receiving the property.  If the value of any individual item was over $5,000 he would need a certified appraisal in order to get his tax deduction.  He would also need to file Form 8283 page 1 and Parts III and IV on page 2.  Charitable donations are also limited based on adjusted gross income and the form of gift that is made.

If Derek decides to sell the gifts at a later time, all income, i.e. the amount received in excess of his basis, would be taxed, but the collectibles would be taxed at a 28% federal capital gains rate instead of the ordinary income rates. 

If it is determined that the gifts were not taxable to Jeter, then his basis for any later sale, if that occurs, will the lesser of the donor’s cost basis or the fair market value at the time the gift was made.

Ain’t taxes fun!

Valuing a Family Owned Business

September 4, 2014

There are many ways and purposes for valuing a privately owned business.  There is no one “right” way.  An appropriate method should be determined depending upon the reason and use for the valuation.  Here are explanations of some of the most used methods.

Fair market value

Many people refer to a business’ value as its “fair market value” but, this is generally a misused term.  Its derivation is from a 1959 IRS Revenue Ruling which specifically addresses valuations for gift and estate tax purposes and does not necessarily provide a reasonable valuation for other uses.

Fair market is defined as “the price at which property would change hands between a willing and able buyer and willing and able seller with neither being under any compulsion to buy or sell and both parties having reasonable knowledge of relevant facts, with both seeking their maximum economic self-interests.”  Implicit with this definition is that there is a “hypothetical” buyer and seller that are assumed to be well-informed about the property and the market for such property and are willing and able to complete the transaction using cash or cash equivalents and that the property would have been exposed on the open market of a period long enough to allow market forces to establish a value.

Part of the determination of a fair market valuation are upward adjustments for a partial interest with control or swing vote ability and downward adjustments for minority interest or lack of control shares and to recognize special difficulty in marketing those shares.

Limitations in this method exist when a current value is needed in a divorce or business dispute; when an actual sale is being negotiated; or where special attributes exist that are not reflected in the earnings history such as a patent or new procedure that is just taking shape.

Be aware that in determining values, consideration needs to be given to the reasons for the valuation, the actual buyers and sellers and pressures they have, family members, employees and other parties of interest, hidden agendas, negotiation skills of the participants, payment terms and periods, income taxes and tax based allocations, transaction costs and legal precedents and rulings that guide and establish values.  In the presence of any one of these, a fair market valuation might not be appropriate.

Standards in a divorce

There are varying methods for matrimonial issues that extend from what a business might be worth in an immediate sale to what it costs to create or to recreate to what it is worth to the present owner – concepts not used in the fair market value method.  Matrimonial valuations arise in State courts with each State setting their own rules and methodology and Judges many times deciding the value in part by using their experience, knowledge and judgment.

Selling the business

Valuing a business that the owner wants to sell can be done in a number of ways, but, at the end of the day, few buyers will base their purchase price on a valuation prepared by the seller.  Additionally, valuations prepared by advocates of the seller lack credibility because they are not considered to be independent.

It is advisable for the owner to consult with an appraiser to get a range of the value and guidance on how to address the negotiation process, and perhaps help determine an opening price and a price for which they should try to settle on, or a walk away value.

Considerations should also be given to the ultimate use of the net proceeds and cash flow that can be expected from the proceeds.  Occasionally, the appraiser will suggest methods of structuring the transaction so the greatest cash flow can result from the sale proceeds.

Buying the business as an investment

This refers to the value of the business’ cash flow and future profits considering the owner’s expectation of risk, return, potential and type of involvement they will need to provide. On some basis most businesses are acquired with this in mind, but not all.

Job value to the buyer

This method values the business in terms of the job wanted in the business with the expected salary and benefits, in comparison to what the buyer could make if they had a comparable job, or any job they are reasonably suited for.

Strategic value

Included in this value are synergies and special features of the business that will add incrementally to a buyer’s current business, and for which the buyer is willing or should be willing to pay substantially in excess of its current value based on traditional valuations.

This could be in situations where a company wants to enter a market and it is less costly to acquire a business already in that market; where a company has a patent or secret process that the buyer can better exploit; where a company wants to eliminate the threat of a competitor or to acquire “critical mass” quickly, irrespective of cost, or expand their product line; or get access to a certain type of customer or the location of the business, where a business wants to maintain a supplier, or a supplier’s competitor; where the combination of two or more companies creates a major niche player, specialty business or one stop shopping source; or where someone is desirous of getting a “job,” i.e. they want to work in the business, or they want to protect their job or own the company they helped create or build.

Many of these situations do not fall within the fair market value definition because there is no hypothetical willing and able buyer and willing and able seller with both having reasonable knowledge of relevant facts.

Partners’, Members’ or Shareholders’ Agreements

Different considerations go into valuing a business for a buy-sell agreement. And one agreement can have different valuations depending upon the reason for a partner leaving.  Voluntary or forced withdrawal, retirement, disability and death, personal bankruptcy or losing a professional license can call for different methods of valuation. Further, when there is a death or transfer to family members, the valuation has to pass IRS scrutiny.  And today’s valuation issues might not be applicable many years down the road when the agreement is acted upon if there is no means of keeping the valuations current.

Valuation in a personal financial plan

Many business owners value their business when they are doing financial planning for their future, retirement or asset allocation.  How the business is valued will depend on many factors, the least of which is the fair market value.  Valuation for estate or gift tax purposes would be at the fair market value, but that might have no basis in reality of what the owner could expect to receive from a sale, net of taxes or the ultimate cash flow from the proceeds.


Valuing a business is an art – not a science – even though careful calculations are made to arrive at an appraisal of the business.  The above indicates just some of the uses of a valuation and the considerations involved in the process.


The Value of a Gift is Different from the Value in an Estate

September 2, 2014

A part of something is not always worth the proportionate value of the whole.  This is particularly the case with a closely held business or real estate.

If only part of a business or real estate is being sold or transferred a discount might be necessary to determine its true value.

The reasoning being that the person with a minority interest has less say or no control over the affairs of the business.  This includes decisions of officers’ salaries and compensation levels, declaring dividends, and merging, selling or liquidating the company.  Accordingly, there is the belief and recognition that a minority interest is not worth its proportionate share of the whole.  These discounts vary depending upon the type of business, number of stockholders, restrictions in agreements, lack of voting rights and myriad of other factors that limit the control of a minority owner.

Another reduction in value or discount that might be appropriate is for the lack of marketability of the minority stock, LLC or partnership interest.  These downward adjustments reflect the reality that ownership of a non-control portion of a closely held business is not easy to sell.  These discounts also vary depending on circumstances.  This discount, where applicable, is in addition to the minority interest discount.

Other discounts could also be applicable but these are not as significant as the lack of control and marketability discounts just mentioned.

If someone wishes to sell a minority interest to someone that isn’t a relative or partner, it is his prerogative and that is his right to do no matter how the price is determined.  However if the transfer or sale is to a related party, the IRS wants to make sure the transfer was at a reasonable value and that there was no circumventing of gift or estate taxes.  And to make things a little more interesting, there are separate methods of valuing the same asset depending upon whether the transfer was a lifetime gift or due to a death.

Lifetime transfers can be valued taking into account adjustments (usually discounts) for minority interests and the difficulty in marketing them.  The gifts or transfers are valued based on the value to the recipient of what they received.  So, if a 100% owner transfers four 25% interests to each of his four children, each interest can be valued for gift tax purposes taking into account these discounts.  So the four 25% interests will be valued somewhat less than the whole.

If that same 100% owner did nothing during his lifetime and left the four 25% shares to his children through a bequest in his will, the value for estate tax purposes would be based on his full 100% ownership without any discounts.  The reasoning is that the owner’s estate is taxed on what he owned at the point of death, not what the recipient gets.

This is important for people with businesses and real estate with substantial value that they intend to pass on to their family.  Lifetime transfers are valued based on what recipient gets.  Death transfers valued based on what decedent owned.  This can result in big differences in tax upon death, and could be especially important for illiquid estates.  It takes planning to figure out what is the best tax approach.  And planning means while you are still able to do something – yourself.

Is it Possible You Are Investing Incorrectly?

August 28, 2014

Of course!

Things change, as do investing methods and philosophies.   And, even if they don’t change, the economy changes, people change, their health can change and their needs change.

I provide a lot of advice to a lot of people and I have come to realize that every person and situation is different and can change in very unexpected ways.  It is not unusual for a client to ask why my advice today is completely different to what I told him five years ago.  Things change and we need to be sensitive to those changes.  The investment markets today are different from five years ago which was different from five years before then.  Someone that entered the stock market in the last ten years saw a different market than if they started in the mid to late 1990s.

Health care costs and availability have changed.  Bank saving rates are different.  Stock market dividend policies are different as are valuations.  Investment management methods and costs are different.  College costs, child care, special needs costs, nursing home and assisted living costs, automobile acquisition methods and home mortgage availability are different.  Job availability for recent college graduates is different with many remaining at home.  Marriage ages are being extended but couples living together and having out of wedlock children are increasing.  Things change.

So, it is important to consider that your prior “perfect” investment plan might need changes.  And it might not.  “Consider” means that you should relook at it.  Do it!


August 26, 2014

A businessman’s long-time bookkeeper is unable to provide monthly financial statements.  An investor’s portfolio has underperformed and she is overcharged by her long-time investment advisor.  A not-for-profit board of directors does not get timely information from the organization’s executive director.  A doctor’s patients have to wait three weeks for an appointment although there are blocks of unfilled time before then.  I’ll start my diet tomorrow.

Many unsatisfactory situations continue ad infinitum without thought except for an occasional annoyance at the status quo. Inertia.  Allowing the situation to continue is irresponsible. “That’s the way we always did it” is not a solution or a sensible method of confronting the status quo.

Inertia is an enemy of transparency, sound management, progress and positive change.  Reevaluate what you are doing and are willing to accept and compare it to what you need and should be accepting.  Accepting less than what you should is probably accepting what you deserve.  Don’t you deserve better?


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