Reading a Fairness Opinion: What It Is and Why Bankers Write Them

It's a two-page letter that says less than people think. The useful part is the twenty pages in the proxy that explain how the bank got there.

A fairness opinion is a letter from a financial advisor to a company's board saying that the price in a proposed deal is fair, from a financial point of view, to a specific group. Usually that group is the target's shareholders. Sometimes a buyer's board gets one too, saying the price it's paying is fair to the buyer.

That's the whole opinion. One sentence of conclusion, wrapped in a few pages of assumptions and disclaimers. If you've ever seen “Opinion of Financial Advisor” in a merger proxy and assumed it was the bank telling shareholders to vote yes, it isn't. It's narrower than that, and the narrowness is the point.

What the letter actually says (and doesn't)

Read the actual opinion letter, usually attached as an annex to the proxy, and the conclusion is close to boilerplate. Based on and subject to everything above, the consideration to be received by the holders of common stock is fair, from a financial point of view, to those holders. Every word there is chosen.

• "From a financial point of view" means the bank is only speaking to price. It isn't weighing the strategic logic, the legal terms, the regulatory risk, or whether the deal is a good idea.
• "Fair" is not "best." The opinion doesn't say the board got the highest price available, or that a different buyer wouldn't have paid more. Fair means the price falls within a reasonable range of value.
• It's addressed to the board, not to shareholders. Most letters say outright that they aren't a recommendation on how anyone should vote.
• It's as of a date. If the market moves or the business changes after the letter is signed, the opinion doesn't update itself.

The assumptions section matters more than people expect. The bank almost always says it relied on management's projections without independently verifying them, and didn't do an independent appraisal of the company's assets. So the opinion is only as good as the forecast it was built on, and that forecast came from the people selling the company.

Why boards ask for one

No law requires a fairness opinion in an ordinary public company sale. Boards get them anyway, almost every time.

The reason is fiduciary duty. Directors selling a company have to show they made an informed decision about price. After a well-known 1985 Delaware case found directors liable for approving a sale without adequate information about value, getting an outside financial view became standard practice. A fairness opinion is evidence that the board asked a qualified advisor to test the price before saying yes. It doesn't make a decision bulletproof, but walking into a shareholder lawsuit without one is a much harder position to defend.

They show up most in situations where someone is likely to question the price later: public company sales, management buyouts, deals with a controlling shareholder on the other side, and transactions between related parties. In a conflicted deal, a special committee of independent directors often hires its own advisor for a separate opinion.

Who writes it, and the conflict everyone notices

Very often the bank giving the opinion is the same bank that advised on the sale. That raises an obvious question. If most of the bank's fee only gets paid when the deal closes, how independent is its view that the deal price is fair?

The industry handles this with disclosure and process rather than by pretending the conflict away. FINRA rules require a member firm issuing a fairness opinion that will be shared with shareholders to disclose whether its compensation is contingent on the deal closing and any material relationships with the parties. Banks also run opinions past an internal fairness committee, senior people outside the deal team, before the letter goes out. The proxy will usually tell you the advisory fee, how much of it was paid just for delivering the opinion, and what other work the bank has done for either side recently.

When a board wants a cleaner answer, it hires a second advisor whose fee is a flat amount for the opinion alone, paid whether or not the deal closes.

How to read the analyses section in a proxy

The letter is short. The interesting part is the summary of the bank's financial analyses, which sits in the body of the merger proxy (filed with the SEC as a DEFM14A for a definitive merger proxy) under a heading like “Opinion of [Bank Name].” It reads like a written-out version of a valuation football field.

1. Find the offer price and the ranges

Each analysis ends with an implied value range per share. Put those next to the offer. Here's a made-up example for a target being bought at $42 per share in cash:

• Discounted cash flow: $36.00 to $47.00 per share
• Selected public companies (trading comps): $31.00 to $39.00
• Selected precedent transactions: $38.00 to $46.00
• 52-week trading range, for reference only: $28.00 to $40.00
• Analyst price targets, for reference only: $34.00 to $41.00

The offer sits inside the DCF and precedent ranges and above the top of the trading comps range. That's the usual shape. A control premium means a takeover price should normally clear where the stock trades on its own, so trading comps landing below the offer isn't a red flag. It's what you'd expect.

2. Notice what's “for reference only”

Banks often split their work into analyses they relied on and ones they show for context. The 52-week range and analyst targets are usually in the second bucket. They tell you where the market already priced the stock, which is helpful, but they aren't valuations the bank built.

3. Read the DCF inputs, not just the output

The proxy usually discloses the discount rate range, the terminal value method (exit multiple or perpetuity growth), and which set of projections was used. That last one matters. Many proxies include more than one management case, and an opinion built on the more conservative case will produce a lower range that makes almost any price look fair.

A quick sanity check: if the implied perpetuity growth rate behind the exit multiple is well above long-run economic growth, or the discount rate range looks low for the business's risk, the top of the DCF range is doing more work than it should.

4. Look at who made the comps and precedents lists

The proxy names the companies and transactions used. Ask whether they're actually comparable on size, growth, and margins, the same questions you'd ask of any comps page. Dropping a couple of high-multiple peers can move the range more than any assumption in the DCF. See reading a comps set for the screens worth running.

5. Check the premiums paid analysis if there is one

Some opinions include a premiums analysis: the offer price compared with the target's unaffected share price (before any deal rumors) one day, one week, and one month out, set against premiums in similar past deals. If the stock had already run up on speculation, the premium to the day-before price will look small, which is why the unaffected date matters.

How it comes up in interviews

You won't usually get asked to write one. You might get asked what one is, especially in M&A or a group that does a lot of public company sell-sides. The questions tend to test whether you understand the limits.

What to take away from one

Skip the letter's conclusion, since it will always say fair. Go straight to the analyses summary and look at where the offer lands in each range, which projections fed the DCF, and how much of the advisor's fee depends on the deal closing.

If you want the math behind what the buyer's side is weighing in the same transaction, see what accretive and dilutive actually mean.