Do You Need a Business Valuation in a Divorce Case?
February 18, 2020 — While the value of each share in a publicly-traded company is known, the value of an ownership interest in a closely-held or family-owned business is not so readily obtainable. When one or both parties in a divorce have an ownership interest in a privately-held business, the value of that business interest needs to be determined for purposes of property division. This fact leads many family law attorneys at the outset of a case to ask, “How can I gauge whether or not my client should pay for a business valuation?”
Is the business nonmarital property?
You don’t need a business valuation if the business is nonmarital property—all property acquired during the marriage and before the date of valuation is presumed to be marital property. However, if the business interest was acquired prior to the date of marriage, or after the date of valuation, it may be considered nonmarital property and not subject to equitable division—negating the need to place a value on the business. Moreover, if the business was acquired after the date of marriage and prior to the date of valuation, but was purchased with nonmarital funds, it may also be considered nonmarital property. Notwithstanding the foregoing, if marital funds were invested into the business during the marriage or there were significant labor-related contributions to the business by either spouse during the marriage, the business interest may have a marital component, necessitating further examination as to how the business should be valued.
Do the parties agree on the value?
You don’t need a business valuation if the parties can agree on the business’s worth—if the divorcing parties are amicable and can agree on the worth of the business interest, a business valuation is unnecessary. However, many times during divorce proceedings, the business is a significant portion of the parties’ marital estate and the value of the business interest is a major source of disagreement.
Is there another way to assess value?
You don’t need a business valuation if the value of the business interest can be assessed in another manner—if the nature of the business owned is relatively straightforward and solely dependent on tangible assets, the attorney may be able to place a value on the business. Though some business brokers assert that all businesses can be sold, buyers of businesses are primarily interested in businesses whose success is not dependent on the day-to-day involvement, skill (including professional licenses needed to legally operate the business), and reputation of its owner. While these types of businesses may have difficulty selling to an outside investor, that doesn’t mean the value of the business is zero. For instance, if the business has cash in the bank, limited fixed assets, and some debt, the attorney may simply determine the estimated value of the business is equal to net book value.
Further, some businesses may exist solely to hold assets (e.g. real estate, marketable securities, or an airplane) and were likely formed for tax purposes or legal protection. In the case of an entity whose primary asset is real estate, it may be more worthwhile to get a real estate appraisal—with the thought being that the value of the business is commensurate to the value of the underlying real estate. Nevertheless, the value of the business interest does not necessarily equal the value of the underlying asset, because the business interest may not own the underlying asset(s) outright and valuation discounts may be an important consideration.
Would a business calculation suffice?
You don’t need a business valuation if the value of the business interest can be estimated using a lower level of service—there are two levels of service a business valuation analyst can offer: a business calculation engagement and a business valuation engagement. In a calculation engagement, the valuation analyst and the client agree on the valuation approaches and methods the valuation analyst will perform, so any of the standardized methodologies utilized in business valuation—under the three basic categories of the asset, income, and market approaches—are available to assist in calculating the value of the subject interest. Moreover, if mutually agreed, industry rules of thumb can also be utilized to give an indication of value, provided the valuation analyst is still using professional judgment. It will cost the client less money to obtain a calculation of value, but its applications are limited. A calculation engagement will not include all of the procedures required for a valuation engagement, so while a calculation of value may be suitable in uncontested divorce cases or for use during preliminary negotiations, it may not be appropriate for use during trial where the results will be scrutinized by a judge or compared to work done by an opposing expert.
Have your attorney consult with an expert
Ultimately, if the parties can agree to the value of the business interest, if the nature of the business is relatively straightforward and the attorney can estimate value, or if a calculation of value (expressed as a range or as a single amount) will suffice, a business valuation may be an unnecessary client expense. However, if there is potential for substantial intangible value or significant opacity in the operations of the business and the limited scope of work for a calculation engagement will not produce credible results, obtaining a formal business valuation may be necessary.
Regardless, attorneys do not need to make this decision in a vacuum. An experienced business valuation expert can help attorneys and their clients decide whether a business valuation is needed in a divorce—which can usually be accomplished through a short phone call with relevant background information and a review of the business’s most recent balance sheets and income statements.