An interest in a business, owned by either party to a relationship personally or through any form of corporate entity, trust or partnership structure, is an asset which necessarily needs to be considered when discussing and reaching agreement as to the division of assets of the relationship. Whilst ownership of the business is usually not a substantial dispute, the value to be attributed to the business is.
Parties can either agree upon the value of a business or have it valued by a qualified valuer. In the case of a business, the valuation is undertaken by a forensic accountant. The valuer will inspect the books and records of the business and often attends at the place of business to look at fixed assets and generally get a feel for the business’s day to day operations.
How then, is the value of a business arrived at? The purpose of the valuation is to have “fair market value” attributed to the business. Fair market value is that price which a willing but not anxious buyer, at arm’s length, being informed with adequate information, will pay for the business. The forensic accountant is likely to adopt either an asset based approach or an earnings based approach to arrive at fair market value.
Earnings based approaches are usually either a Discounted Cash Flow Method wherein the predicted cash flow of a business is considered and a discount applied to arrive at a value based on predicted income. This methodology is best for “start-up” businesses. The alternative methodology is the Future Maintainable Earnings method whereby the estimated future earnings of a business is capitalised using an appropriate investment rate of return. This method considers past performance which can be adjusted for any unusual amounts or transactions appearing in financial records which are not likely to occur again in the future. The investment rate or capitalisation rate is arrived at after considering the business “risk”, the competition which exists and industry wide norms and conditions. This valuation method is best for well established businesses with a history of stable earnings.
Finally, asset based approach arrives at a valuation based on the realisable value of the identifiable assets of the business and is best used where value of assets of the business can be readily determined and adopting this method would result in a valuation higher than any of the earnings based approaches.
The above discussion just touches upon the many methods of business valuation which are available to a forensic accountant. Of course if during the conduct of your property settlement matter we consider it appropriate to engage the services of such an accountant, we have many referral sources that we can put you in touch with.
To discuss your property settlement matter further, including any issues to do with the valuation of your business or a business operated by your former partner, please contact Marino Law to make an appointment.