Get a solvency opinion before buying a business

During a corporate transaction, such as the purchase of a business, a solvency opinion is a financial opinion issued by an M&A advisor about the likely solvency of the newly created entity. The solvency opinion is based on an analysis that includes a general review of the fair saleable value of the assets and stated value of the liabilities, the cashflow capacity of the company and the ability to meet obligations as they become due.

The opinion is often required by boards and/or lenders as additional protection in the case of a subsequent fraudulent conveyance claim. Opinions issued by third party advisors can be assurance for creditors in the case of bankruptcy. In bankruptcy the absence of an independent opinion presented to the parties involved in a given transaction can result in a lender's loss of right to priority repayment of debt from liquidation proceeds. As such solvency opinions are mostly given where a deal is highly leveraged.

The percentage of M&A advisors who believe solvency opinions will have a direct impact on the terms or completion of a transaction over the next year has doubled since before the onset of the credit crisis, according to a study released by mergermarket in association with Houlihan Lokey. The study, conducted during the third quarter of 2009, compiles interviews of senior corporate executives, private equity practitioners and lawyers from the US and Europe regarding their recent and historical experience with solvency and related business valuation opinions.

Ben A. Buettell, managing director and head of Houlihan Lokey's solvency opinion practice. “In the transactions that are coming to market, buyers and lenders are taking a closer look at the valuations of assets and liabilities on a pre-and post-transaction basis. The study's findings are in line with our observations that professionals are responding to ongoing market complexities and the growing concern that solvency opinions are more likely to be challenged in the future by spending more time on these valuation issues.

The report has highlighted key differences between the use of solvency opinions in Europe and North America. In North America two thirds of respondents reported that they had been involved in a transaction that included a solvency opinion compared to just one third in Europe. However, it is in Europe that there is the expectation of wider use of the solvency opinions in major transactions. The study also concluded that distressed asset sales would play a more important part in driving demand for solvency opinions due to the much closer scrutiny surrounding these transactions today.

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