Business Valuations – What is the Purpose?
“Business Valuations What is the Purpose?” by Les Smeach, CPA/ABV, CVA, CFF | Principal – Tax
Business Valuation assignments vary depending on the purpose. Therefore, it’s imperative to understand the purpose of the valuation before the process starts. Generally, the purpose will determine the Standard of Value, the methods used and the level of background and research needed. Valuations can be for a whole business, a factional interest or a certain group of assets. The size of the company does not affect the overall theory, and if the valuation is for less than 67 percent of the business, discounts may apply.
An overview of the purposes are:
- In a shareholder dispute, shareholders agree that a breakup of the company is in their better interests. Because state law varies on how a valuation is to be done when this is the purpose, a valuator has to know particular state case law in this area. Many states’ case laws support a value of a shareholder’s interest, as if no dispute action ever took place.
Estate and Gift
- Businesses are valued for various reasons when this is the purpose. Generally, the purpose is for estate planning, gifting of business interests or because someone who owns a business has expired. A business vehicle that has become popular in the estate and gifting area is the Family Limited Partnership. It is used to transfer assets out of a taxpayers’ estates to family members relatively quickly, and discounts are appropriate because of control limitations on the interests being transferred.
- In a divorce, most of the couple’s assets are valued, including interests in businesses. Application of divorce laws vary from state to state, county to county, and sometimes judge to judge, so it helps to be familiar with the state, county, and judges on divorce valuations.
Mergers, Acquisitions, and Sales
- These transactions generally require valuation to be performed to negotiate a merger, acquisition, or sale. Usually, the buyer and seller will want a valuation so they can negotiate the best price for themselves
- These agreements are between partners or shareholders in a closely-held business and generally include provisions that state if a triggering event occurs, the entity is required to pay a certain amount as defined in the agreement. It is important while drafting the agreement to spell out:
- The Standard of Value used in a valuation is appropriate.
- How the value of the interest will be determined; i.e. process to implement to determine a value or the use of a fixed formula
- The methods that need to be used to determine the value of the interest and/or the business