I have been offline for awhile due to a short vacation and a backlog of work, but I’m back with a book report. May I suggest that you read “The Black Swan” by Nicholas Nassim Taleb?
This book concerns extremely rare but consequential events (gee, I can think of a few that have happened in the last year…) and why human beings tend to underestimate them. One of the author’s major insights is that it is often wrong to analyze social phenomena in the same way that we analyze physical phenomena. For example, if you took a sample of 100 people and measured physical characteristics such as height, weight and age, the data would be distributed normally (along a bell curve) and susceptible to appropriate statistical inferences. But if you took the same 100 people and measured their income or net worth, the results would be anything but normal: a very small percentage of the people would have the vast majority of cumulative income or net worth.
I’m still ruminating about what this means for business valuation. I’ve tentatively concluded that in the fair market value (taxation) world, we are OK because we are directed by law to focus on the “typical” buyer / seller, which often means the mean or median…and we don’t worry as much about dispersion about the mean. I also think we are OK in fair value (in the financial reporting and dissenting shareholder senses) for the same (accounting rules and state laws) reasons. But in the investment value world, the world of real deals where synergies and buyer / seller specific effects dominate, well, that is where non-bell curve factors dominate.