Baldwin v. Bader, 2008 U.S. Dist. LEXIS 56236 or 2008 WL 2875351
PORTLAND, Me.—This is the Maine federal court’s second look at what it called a close and difficult question—the valuation of personal guaranties given by company insiders to secure financing. The first review came on a motion to exclude expert testimony that valued personal guaranties by comparing them to the risks borne by equity investors. After the previous judge retired and other issues were raised, the court reconsidered Daubert matters, with added references to the just-released Cost of Capital: Application and Examples (3d ed. 2008) by Shannon P. Pratt and Roger Grabowski. The opinion makes for provocative reading for appraisers and attorneys alike, especially on the novel and “hard-fought” issue how to value guaranties separate from valuing the business.
One issue was whether an excerpt from Cost of Capital was admissible at a Daubert hearing if the expert didn’t rely on it. U.S. Magistrate Judge John H. Rich III saw no such requirement. “[N]one of the authorities that the plaintiff cites . . . can be read to stand for the proposition that a proponent of expert testimony is confined to defending against a Daubert challenge solely on the basis of the authorities the expert used to formulate his or her opinion . . . .By contrast,” the judge added, “my own research indicates that . . . it is permissible for proponents of expert testimony to rely on authorities other than those explicitly relied on by the expert to establish the reliability of the expert’s methodology.” He added that the exhibit is probative at least relating to whether Pratt “subscribed to the view that there was no published study quantifying the risk premium added by provision to a personal guaranty.”
Novel Methodologies, ‘Tried & True,’ and Ipse Dixit
Whether defense expert John T. Gurley’s testimony passed Daubert muster was a “close question,” the court commented. Despite a “combined depth of accounting experience of some 70 years,” it said, neither Gurley nor the plaintiff expert had ever valued a personal guaranty. The plaintiff attacked Gurley’s testimony as based solely on his ipse dixit. Daubert says novel methodologies can be reliable and old ones can be applied in new ways, the judge observed, “yet novelty does not relieve the burden of proving reliability” and the defendants did not carry that burden. While acknowledging all the ardent study, analysis and independent research Gurley undertook, the magistrate judge said he could not conduct his gate keeping from “too generalized a perspective.” Did Gurley arrive at the “particular conclusion” that the risk of personal guaranties was comparable to the risk of equity investment? In the end, despite his efforts and experience—perhaps, even, following “tried-and-true” BV practices—the court excluded Gurley’s testimony on personal guaranties because he never valued one before and because of questions raised by the competing expert about Gurley’s methodology.
(Editor’s Disclosure: Shannon Pratt is the founder and former owner of Business Valuation Resources, publisher of BV LEGALWire.)