Why Are All Business Valuations Not Created Equally
Purchase Or Sales Value
Getting The Most From Your Expert

Why Are All Business Valuations Not Created Equally

The reasons are many different situations that require a valuation, each with its own inherent factors from which the valuator draws his/her conclusions. Some value reasoning arises from legal precedents within jurisdiction or regulations & rulings, others from business or market practices. Depending on facts & assumptions that accompany a specific situation, the value for the same business can be very different.

Purchase Or Sales Value

One of the most common reasons for determining the value of a business is for a purchase or sale of the business. It is presumed that neither side is under any pressure to buy or sell within this type of valuation. Other items that are considered include the value of the business as a continuing Company, the risks related to the continuity of the business, the historical earnings of the business, and an analysis of any uncertainties, including the industry, competition, ease and cost of entry and the local and national economy. The projected future income of the business is also a factor in a valuation for a sale or purchase.

Valuation To Obtain Bank Financing

Another common reason for a business valuation is to obtain financing. The lending officer's valuation presumes a necessary level of projected cash flow to meet a bank's principal and interest payments as well as the liquidation value of collateral in case of foreclosure. These are different presumptions than those for purchase /sale valuation & therefore these values are different.

Valuation For Tax Purposes

Valuation for tax purposes are often the focus of IRS rulings & regulations. E.g. 59-60. Inheritance tax valuations might presume the loss of what may have been the key employee and perhaps even the liquidation of the business to pay for the inheritance taxes. Gift tax valuations may be able to presume a minority interest discount or a lack of marketability discount. The objective of gift tax valuation is to independently and objectively minimize income taxes due, & these discounts are allowed where applicable.

Valuations Between Partners And Other Owner's

Valuations between partners & other owners also have different presumptions. If the purpose of the buy-sell agreement is to penalize owners for ending ownership or employment, the valuation method might not be reflective of the Fair Market Value. If buy/sell agreement is funded with the net proceeds from life insurance; the main presumption is often the estate plan needs of the owner, and that amount governs the value rather than the true value of the Company.

Finding The Right Value For Your Purposes

It must be understood that there is no "one" value for a business, and what might be the right value for one purpose will not work in a different situation. A valuator analyzes these differences and understands the presumptions inherent in each type of valuation. Experts can select and implement a method to determine the proper valuation method for the purpose at hand.

Buyer Always Be Wary!!

The following are financial and accounting problems that are frequently uncovered during the due diligence process. Knowing what to look for can make it easier to spot potential problems:

Inventory Valuation Amount

Understating inventory to lower income tax can lead to distorted earning, potential tax assessments, & unless properly adjusted for, incorrect business valuation results.

"Dressing up" Financial Statements

This can include deferring repairs & maintenance, faulty estimates of bad debts, deferring sales or purchases to next period to equalize income reporting.

Personal Items Included Within All Parts Of The Financial Statement

These usually decrease reported income, or overstate assets, & effect reported income & net worth when not adjusted.

Unrecorded Liabilities

These may include vacation pay, sales returns, pension liabilities, warranty claims, etc.  

Need To Purchase A Significant Amount Of Future Equipment.

This could include plant relocation or expansion, replacing aging equipment and requiring new product development.

Inadequate Financial Controls

Common resulting problems include poor pricing and costing policies, not running Company to generate owner's continual equity & profitability, internal theft, weak budgeting & ensuing bad mgt.

Getting The Most From Your Expert

Creating a strong working relationship with your expert witness can help you position yourself most effectively. Here are some tips for working well with your professional:

Focus On What You Need

A written specifically defined engagement control will help the entire job flow more efficiently. If you do not clearly state what you want your expert may spend time pursuing all the relevant evidence rather than focusing on specifics that you feel are most needed.

Prioritize The Job Into Phases

By working in order, advanced commitment to work that may not be necessary can be avoided. Prioritizing the expert's tasks allows you to proceed step by step through the engagement. This provides flexibility, and allows the information provided by each stage to be used as hindsight towards the next step. This organizes the necessary work and limits the total cost.

Keep The Lines Of Communication Open

As your expert works through each phase of the job, make sure you are aware of the results. Discuss with the expert what he or she feels in the best course of action based on the findings. This will also help you to further define the steps of your overall investigation.

Discuss With Expert The Support & Documentation You Will Need

This will avoid any misunderstanding as to what information is necessary, for the final product. E.g. Do you need a formal written report? Will the expert be testifying or merely presenting the results to you & your client.

Remember, You Get What You Pay For

Using an inexperienced expert or limiting the investigation to save money may end up costing much more in the end.