Terminology can be confusing and costly. Buyer Beware.

Business valuation terminology can be confusing and full of acronyms that, when combined, feel like alphabet soup. For someone needing a business valuation – whether for a dispute (shareholder or divorce settlement) or for estate settlement or tax purposes, understanding what you need and what you are getting are both essential.

Buyer Beware: Calculation Assignment or Calculation Report

While I have been preparing detailed business valuations for years, I am seeing a growth in a lower cost alternative referred to as a ‘calculation assignment’ or a ‘calculation report’ that reminds me of the adage: you get what you pay for. The appeal of the lower price is understandable, but the deliverable is not. I encourage you to read on, to learn the reasoning for why these calculated reports are not useful and typically cause more angst as they set unrealistic expectations, reduce trust, further disputes, and increase overall costs.  

Taking a Step Back: Step 1 Why do you need a business valuation?

If you are talking to professionals about the need for a business valuation, take a step back and think about why you need a valuation. Is the trigger for any of he following reasons:

  • Divorce settlement?
  • Shareholder dispute?
  • Taxes: settling an estate or gifting shares in the business?
  • Selling the business?

If you answered yes to any of these four categories for needing a business valuation, you need a real, thorough, detailed valuation that stands up to scrutiny. The valuation needs to present how the valuation was determined and provide detailed support to answer why the valuation was determined to be as written. If you are simply curious and asking “I wonder what my business may be worth?” and are looking for a rough idea then read on.

Step 2: What do you need in terms of a valuation report?

This is where most business owners hesitate (and rightfully so). As a business owner you run and lead your business, but you are not a business valuation professional. It is completely reasonable for you to respond – “How the heck should I know?” I have never needed a valuation before!

Important Considerations for how the Business Valuation Report will be used:

  1. Does the valuation need to stand up to scrutiny? In other words, is it likely there could be a disagreement about the determined value? In a divorce, it is highly likely that each party will have its own viewpoint on the business valuation. In the case of a shareholder dispute or a sale, the same is true. One party will benefit from a lower valuation while another will benefit from a higher valuation. The same logic applies to a valuation needed to settle a tax matter – the individual paying the taxes seeks a lower business valuation while the IRS will benefit from a higher valuation of the business.
  2. Do the interested parties need to be able to follow how the valuation was determined? In other words, is supporting detail important to provide explanation, rationale, and calculations to support the determined valuation?

If you answered yes to one or both of the above questions, you need to be speaking with an accredited business valuation professional who has the expertise and credentials to prepare and present a business valuation that results in an opinion of value that is supported with how and why the valuation was determined.

The reports meet the standards of the USPAP, the highest standards applied for business valuations. Ask any valuation professional about the deliverable and assess their credentials by looking for both or at a minimum one of the following credentials:

  • Accredited Senior Appraiser (ASA) – only professional designation to comply with USPAP
  • Certified Business Appraiser (CBA) – designation from the Institute of Business Appraisers (~200 across the country in total)

Back to Calculation Assignments and Calculation Reports

These reports or assignments are not business appraisals. They were not designed to serve as an alternative to a full business appraisal. They were intended to provide a rough idea of the value of a business and do not include any supporting detail that would be adequate to stand up to the scrutiny of settling a divorce or shareholder dispute. The IRS is unlikely to rely on any such report to adequately explain the value of a business.

The report or calculation assignment is supposed to include a disclaimer that the report is not an opinion of value but, unfortunately, I have had multiple clients come to me after learning the hard way that what they paid for was inadequate to address their initial need for a valuation and they lost valuable time and incurred additional legal expenses only to realize they needed my professional services to develop a business appraisal that would stand up to scrutiny and be an objective and thorough analysis presenting how and why the valuation was determined.

Read how the first ‘valuation’ missed the mark in the Divorce Settlement

Buyer Beware

Our industry is governed by the USPAP standards. Many CPAs and accountants seek to help their clients, especially smaller business owners by offering to prepare a calculation assignment to give them a rough idea of the value of their business. With good intent, the rough idea is inadequate to support gifting shares, settling a divorce, or settling a shareholder dispute.

If you need an opinion of value for a business, do not invest in a calculation assignment or calculation report. These reports do not meet the standards of support and detail that a business valuation must include. To learn more about the three types of valuation reports that Merrimack Business Appraisers prepares, click here. Read FAQs on our website for additional information .

Understand why you need a business appraisal and be confident in asking specifically, what does the end deliverable include and what are the credentials of the professional who is preparing the business valuation? Answers to these questions can save you time and money.

When Values Matter.

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Can AI reduce the time and cost of business valuations?

We are hearing and reading all about artificial intelligence and the role it may play in our lives. Think about how our lives have changed over the years with new things: from radio to television, from horses to automobiles, from writing letters to texting and messaging. It is quite astonishing the transformation technological advances have in our world.

And with such advancements, there are downsides such as the general belief that constantly being on one’s phone or tablet has prevented a generation of young adults from being able to have a conversation.  There always seems to be a trade-off as innovations take effect.

Does AI Threaten Business Valuations as Prepared Today?

It is a fair question given the emphasis on applying artificial intelligence to rapidly produce large amounts of content on any given subject. Given a completed business valuation is typically 100+ pages, it would be logical to think that AI can shorten the timeframe and lower the cost.

So, let’s take a broader view of key elements that are analyzed when preparing a detailed and thorough business valuation of a privately held company:

  • Financials (revenue, net income over a period of time)
  • Leadership team
  • Staff/employees
  • Products and services
  • History
  • Industry
  • Local market information
  • Customer/client base
  • Patents/Trademarks
  • Processes
  • Assets including equipment, physical properties, real estate

Determining the valuation of a privately held business is not formulaic. There are quantitative components (of course) but also qualitative factors as noted in the above simplified list that a ChatGPT or other AI system cannot accurately account for.

An example: two convenience stores have the same revenue, net income, products, square footage, and foot traffic. It is likely and reasonable to think that by applying AI, the valuations for these two stores would be the same or quite similar. An industry multiple (an average) would be applied to the earnings and a few industry comparatives would be identified to determine a valuation. A lot of general content could be generated via AI to describe the convenience store national market, local market, and recent transactions. Volumes of content could be generated, but the applicability of the content may or may not be relevant to each convenience store.

In reality, each of these stores will have a vastly different valuation based on a thorough analysis of the above list. One will have a significantly higher valuation due to its client base, location and lower business risk factors.

At a quick glance, the challenge for business valuations given the rise of AI will be identifying if the contents of the valuation are ‘junk’. With AI, volume of content can be generated rapidly, but the challenge will be in determining if the content is accurate.

A Test of AI by a Highly Regarded Valuation Professional

A business valuation professional who is highly regarded nationally spoke about AI as it relates to developing business appraisals at the annual NACVA conference (National Association of Certified Valuators and Analysis). He conducted a test using AI to prepare a business valuation. His test showed that the AI tool had fabricated content.

Ask How the Sausage is Made

It may seem difficult to evaluate a business valuation professional other than to rely on the integrity and professionalism of a person you trust who made the referral. There are important factors to consider including their credentials and certifications. First, do your homework online and then when speaking with the recommended business appraiser, ask to describe the process they follow to prepare the valuation. You have every right to ask about process and to listen or ask specifically, if they complete the research, have other staff to do the research, or do they leverage AI. If the latter, move on. 

Business valuations need to stand up to intense scrutiny, which in some cases is handled in court. If the valuation report has been generated by AI, who is testifying to the opinion of value in the business valuation? A system can’t testify.

When a business valuation matters – whether for a tax matter including settlement of an estate, allocating assets as part of a divorce, settling a shareholder dispute, or selling a business – the consequences of the business valuation are important. AI is not where it needs to be as a replacement for a thorough and objective business valuation. I am not convinced it ever will be there, but never say never.

For professionals seeking to cut corners and check out emerging technology, yes, their fees may be less, but their professional reputation is at risk and your time and money is also at risk for an inaccurate valuation.

Stay tuned to the fascinating advancement of artificial intelligence, but do not risk a flawed valuation that has real implications.

When Values Matter.

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Divorce & Business Valuations: Rules Vary By State

So, you have a client who is going through a divorce, and they need a business valuation to settle the allocation of assets. Or you are filing for a divorce and need to hire a business valuation professional.

Whatever the situation, state-specific knowledge is essential.

When it comes to business valuations for settling divorces, every state has its own rules.

Time and money could be lost by hiring a part-time business appraiser who prepares valuations on the side or a full-time appraisal professional who has limited experience.  

Example: New Hampshire and Massachusetts

People drive over these state lines regularly to go to work, go out to dinner, or run errands. But, when it comes to business valuations for divorces, two bases of valuations exist.

In the Commonwealth of Massachusetts, the standard of value is the Fair Value to the Holder rather than Fair Market Value. The Supreme Judicial Court ruled in Bernier vs. Bernier that business valuations assumed each party had 50% ownership in the business and because of a divorce, one party was giving up the 50% interest and the other was walking away with the whole. Rather than a business valuation determined by mimicking a transaction in the open market, valuation would be determined based on fair value to the holder. The income approach using public stock market data, without reductions for lack of marketability is generally preferred while a market approach using transactions of privately held companies is generally not used.

In New Hampshire, valuation of a business in the case of settling a divorce is based on fair market value, considering the actual prices paid for privately held companies in the market.  

When referred to a business appraiser or evaluating a business appraiser, ask them about their experience in valuations in the state that is the venue for your matter. In business valuations for divorce, the venue is determined by the state of the divorce, not where the business operates. The business may be in Salem, MA while the parties live in Salem, NH. New Hampshire rules may govern the preparation of the opinion of value.

Another Nuance: Dates and Business Valuations

It may seem like a pretty straightforward question – what is the date of the business valuation in the matter of a divorce settlement? Well, it depends.

In some states, by law, the valuation date must be the date when the couple filed for divorce.

In Massachusetts, the date of the business valuation is not specific, but most parties want the valuation not to be ‘stale’, therefore updates are typical as the attorneys inform the business appraisal professional of the divorce proceedings with updated timelines as court dates are determined.

Other states including New Hampshire, operate similarly to Massachusetts as there is not a specified date requirement, but being timelier may be less important.

Based on the state laws, it becomes readily apparent how important timing can be. Getting an experienced, credentialed, business valuation professional secured early in the divorce process in order not to elongate a typically lengthy process is recommended.

Conclusion

If you are seeking to refer a client to a business appraisal professional related to a divorce or need to retain such a professional, make sure to ask about their knowledge of state divorce procedures. Anyone going through a divorce has a lot on their mind and the last thing you need is to learn the detailed business valuation that you have paid thousands of dollars for was not prepared applying the correct standard of value for the applicable venue.

When settling a divorce where a privately held business is involved, secure a knowledgeable and experienced business appraiser.

When Values Matter.

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Buyer Beware: you need more than just the valuation number.

When a business valuation matters, supporting details matter.

The need for a business valuation is triggered by important situations: selling a business, gifting shares of a business, valuation of assets as part of a divorce settlement, tax matters, and settling disputes. No matter the trigger, the valuation is important. And the supporting details matter.

Beware of an Emerging Trend – ‘Skinnied Down’ Business Valuation Reports

There is an emerging trend to offer ‘skinnied-down’ valuation reports. The end report is typically briefer, often in the form of a PowerPoint presentation and does not meet the standards of a USPAP compliant business Appraisal Report (mine are typically 100-150 pages).

Firms, including national and larger regional firms, that prepare business valuations are looking for ways to be more efficient; to take less time preparing business valuations.

The format of the final deliverable matters because the supporting details matter. A business valuation report must present a clear and replicable explanation of how and why the business valuation number was determined. The written explanation supported by charts and graphs is essential to a business valuation report meeting the highest standards for business valuation reporting defined by the IBA (Institute of Business Appraisers).

If you need a business valuation, ask the valuation professionals you speak with about the format of the final deliverable to help you assess if you are getting a thorough report that will stand up to scrutiny.

Lack of Support = Lack of Credibility

Standards were established by USPAP for the business valuation industry to garner public trust in the work being done.

When a business valuation is needed, the interested parties need to be able to understand the valuation determined and be able to understand and trust how and why the valuation was determined. This is precisely where these skinnied-down PowerPoint valuations are lacking support and therefore lacking credibility.

The risk for you as an interested party is that the lacking valuation report may create unrealistic expectations, making the situation worse and contributing to trust among the interested parties breaking down further. A valuation report needs to stand up to rigorous scrutiny: that may be another interested party in the matter, the IRS, or a judge. A report lacking supporting details will not meet that standard.

Cutting corners rarely if ever works out. With Merrimack Business Appraisers, you can be assured our valuation reports will adhere to the highest reporting standards with the valuation presented in an objective and detailed way to present what the valuation is and how and why it was determined. Just like a residential real estate valuation, reasonable comparisons will be included.

An Unnecessary Re-Do

I recently completed a business valuation for a divorce settlement. Unfortunately for the two parties, they had jointly hired a business valuation professional and what they received as a PowerPoint deliverable was expensive and lacking in supporting detail. Neither understood the valuation report nor had any confidence in its contents. So, they hired me and received what they needed. Learn more here.

Avoid losing time and wasting money on brief and insufficient valuations. Get the details you need to ensure the valuation is understandable. With a detailed and thorough business valuation that answers why and how, the reason for the valuation will be solved and the situation that triggered the need will be resolved. Do not risk adding to the problem. At Merrimack Business Appraisers, our valuations solve the matter at hand and our clients move on with confidence in the valuation.

When Values Matter. Supporting Details Matter.

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Need a business appraisal? Ask about the process.

Do you need an appraisal of a business? Whether for gifting shares of a business, settling a divorce, or buying/selling a business, it is important to evaluate the business valuation professional. That may be difficult to do as this may be your first time needing to hire a business appraiser.

No matter what is triggering your need for an appraisal, it is important to understand the process that the professional follows in developing the valuation.

Why does process matter?

Process matters because it is important that the valuation is thorough and complete. A well-documented opinion of business value is defensible and will stand up to rigorous scrutiny.

We have developed a proven process comprised of a series of logical steps that make our company valuations defensible. Our reports document what was done, why it was done, how it was done, and the conclusions drawn and why those conclusions are reasonable and credible.

To date, when a business valuation has required expert testimony to present clearly and logically how the valuation was prepared and determined, the ruling authority has always ruled in favor of Certified Business Appraiser and President, Lou Pereira.

A Summary of Our Valuation Process

Our valuation reports are developed to conform to the highest and most inclusive of all the applicable standards. Our complete and thorough process is summarized in the below 6 steps:

  1. A careful and thorough qualitative and quantitative analysis of the business, including the history, products, markets, customers, management and employees, facilities, capital structure, and competitors. This step includes a site visit, which may be virtual, to tour the operation and interview management.
  2. Review important documents including shareholder agreements and by-laws, key customer contracts, and leases.
  3. Complete detailed financial analysis of the past 5-7 years of income statements and balance sheets, common-size and industry peer group analysis to identify trends and anomalies.
  4. Construct a forecast of expected future operations.
  5. Apply the three generally accepted business appraisal approaches:
    • Income Approach – earnings relative to public market returns.
    • Market Approach – research transactions of similar businesses, and develop price to revenue and earnings multiples, which are applied to this business.
    • Asset Approach – analyze the underlying assets and consider value in liquidation.
    • Reconcile the indications of value from the three approaches into a conclusion.
  6. Document all the relevant research, information collected, analysis, observations, and conclusions in a detailed written Appraisal Report, compliant with USPAP.  The company valuation reports are typically 100 – 150 pages or more depending on the specific facts and circumstances of the case, with all the information needed to understand and agree with the conclusion of value.

If you need a business valuation, be sure to assess the track record of the business valuation professional who will do the work and be comfortable with his/her track record and adherence to a complete and thorough process. Learn more about Lou Pereira.

When Values Matter. Process Matters.

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How Important is Industry Specialization for Business Valuations?

For some professional services, industry specialization matters. A professional’s focus and in-depth knowledge of a particular industry can offer tremendous value to the client. I am regularly asked about industry experience and if I specialize in select industries to prepare business valuations.

Do you have experience in my sector?

It is not unreasonable that many people seeking a business valuation want assurance that the business appraiser understands their industry. While understandable, it should not be a focus when evaluating a business appraiser.

There are much more important aspects of a quality business valuation than if the business appraisal has developed valuations in the specific sector. Of paramount concern should be objectivity and impartiality.

Given my years of experience, I have developed business valuations for all major industries and sectors including, but not limited to, retail, food service, wholesale, manufacturing, technical services, professional services, healthcare, and real estate holding companies. For a list of industries for which business valuations have been prepared, click here.

Is industry specialization an important factor in choosing a business appraiser?

Given that industry experience is not a top qualifier, it is certainly not recommended that you seek a business appraiser who specializes in select industries. Our experience has shown that industry specialization does not translate into better results. On several occasions, our work has prevailed over the opposing so-called industry specialists.

What is more important than experience in the specific industry is the process, including a careful and thorough qualitative and quantitative analysis of the company and the environment in which it operates.  The business appraiser must consider the history, products, markets, customers, management and employees, facilities, capital structure, competitors, industry, economy, financial performance, and future earning capacity.

Instead of industry, focus on the following to evaluate a business appraiser:

  1. Credentials – what certifications does this professional have? Has this professional achieved the training and industry designations available for this field?
  2. Track record – do they have a proven track record for their business valuations holding up to the strictest scrutiny?
  3. Process – do they have and adhere to a thorough, detailed process documenting what was done, why it was done, how it was done, and the conclusions drawn as well as supporting documentation of why such conclusions were drawn?
  4. Focus – is this a full time focus of the appraiser? How much of the work does the individual you are speaking with do as opposed to handing off the work to a junior person?
  5. Methodology – we have long embraced and leveraged the Discounted Cash Flow method, a method many have more recently adopted. Ask the business appraisal professional to explain their preferred method and why.

Choosing a business appraisal professional based solely on industry specialization is not recommended. There are far more important criteria, and our experience has shown that the end result or relying on that single factor can be sub-optimal.

When Values Matter: If you or someone you know needs a business valuation for taxes, divorce, selling a business, or resolving a shareholder dispute, contact us to obtain a thorough business valuation that will stand up to rigorous scrutiny.

When Values Matter – Choose Your Business Appraiser Carefully

Welcome to the first edition of When Values Matter. We hope you will find this blog informative and educational as we explore various topics related to business valuation for small and mid-sized private companies, including closely-held family businesses.

With today’s hectic business pace, many professionals may not fully realize that all valuations are not alike. No more than all family law attorneys are alike, nor all CPAs are alike, there can be vast differences in the quality of professional advice.  Similarly, a business valuation is not a commodity.

There are many different reasons to value a business including tax matters (estate settlement, gifting, and employment related), divorce settlement, shareholder dispute resolution, or sale of a business. Consequences can be dire if the wrong value is used, or if a value intended for one purpose is used for another.

So how do you select a business appraiser?

When a business valuation is needed, look for the following:

  • Track Record.
    While most cases settle outside of court, when Merrimack Business Appraisers’ valuations have been presented in court by Mr. Pereira, the triers of fact have ruled in favor of the opinion of value 100% of the time.
  • Ethics.
    When business values matter, professional values matter too including objectivity and ethics.
  • Certifications.
    Louis Pereira has completed the most intensive training in the country and earned the highest designations available in the field of business valuations. There are fewer than 200 Certified Business Appraisers in the country, and Lou is one of them. In New England, he is one of only a dozen having earned the rigorous designation of Certified Business Appraiser.

At Merrimack Business Appraisers, we are here to help when values matter to you.