A business valuation, the formal process that results in an opinion of the value of a closely held company, can be a valuable tool for a business owner in a number of situations. In some situations, a valuation is legally required. In others, procuring a valuation that is prepared by a credible firm, will enable the business owner to defend a position with respect to estate taxes, the buyout of a shareholder or partner, or the sale of the company to certain buyers.
Unlike a public company where you can look up the price on any given day, the value of a private company is, at best, an estimate. A valuation analyst will use data, analysis, and most importantly judgment to arrive at an estimate of value. In doing so, a good valuation analyst will consider the nature and history of the company, its historical and expected financial performance, macro- and microeconomic conditions, the competitive landscape in which the company operates, its customer base, workforce, and any number of other intangible assets to arrive at the opinion.
Given the cost of valuation, the dynamic nature of a business, and the myriad assumptions that enter into the analysis, business valuations are often driven by a specific need or circumstance and are generally date specific. In the paragraphs that follow, we will explore several of the common reasons that business owners seek valuations.
Valuations for Succession Planning/Transfer of Ownership
Succession strategies for a business owner may involve a partial or complete transfer to children, third party competitors or strategic buyers, employees or management of the company or private equity funds/family offices. In some cases, the sale to employees is effected through a tax-advantaged vehicle such as an Employee Stock Ownership Plan (ESOP).
Determining the most appropriate exit strategy involves the consideration of numerous complicated issues, with the value of the Company being just one component (albeit a critical one). Tax matters, as well as family and employee well-being, tend to hold significant importance. Understanding the value of the business in advance of an ownership transition can:
- Streamline the process of assessing alternatives;
- Minimize gaps in expectations surrounding price; and,
- Assist in determining the most appropriate exit to meet the needs of the company’s stakeholders.
While the importance of a business valuation is most obvious in the context of a sale to a third-party, it is also critical to other exit strategies, including a sale to management, an ESOP, or even when selling stock to your children. A business valuation also will help an owner understand the drivers of the company’s value, facilitating initiatives to maximize value in advance of a sale.
Engaging a professional financial advisor is a key step in determining, preparing, and executing an effective business succession strategy or exit plan. The experts at Acuity Advisors use real-world transaction experience coupled with our valuation expertise to assist our clients throughout this process, with a focus on tailoring our services to meet the unique needs of each business owner we serve. With any succession strategy, there are many potential outcomes, but at Acuity Advisors we are driven toward finding the one right result for our clients.
Valuations for Gift/Estate Planning
Estate planning is not just about minimizing taxes, it gives a business owner control over how his or her assets are passed down to heirs. A clear and concise plan is crucial, and necessitates a valuation both to plan for equitable distribution to heirs, but also to aid in tax planning.
If the strategy involves the gifting of shares, procuring a competent valuation will get the relevant statute of limitations running, an important step in managing any potential tax exposure. The experts at Acuity Advisors will work in conjunction with your other professional advisors to ensure the optimal strategies are being employed pursuant to your estate plan, and that the valuations will be prepared with sound, industry-standard analysis to aid in withstanding third-party scrutiny.
Valuations to Allocate Purchase Price
In the event of a business combination (i.e., merger, acquisition, sale, etc.), the purchaser and the seller need to properly record the sale in order to comply with certain tax and financial reporting rules. Typically, a third-party valuation will be needed to estimate the fair value of the acquired intangible assets and goodwill. This is a specialized business valuation known as a purchase price allocation.
Purchase price allocations are generally reviewed and vetted by accounting firms to ensure compliance with U.S. GAAP and other financial reporting guidance. Retaining a valuation expert with experience in preparing purchase price allocations is critical to minimizing several headwinds, including added costs from the accounting review process, and management’s time and bandwidth. Acuity Advisors works with clients ranging from small closely held businesses to large publicly traded companies. That experience, along with our relationships with major accounting firms, can ensure an efficient, professional, and streamlined process when preparing a purchase price allocation and related analyses.
Valuations for Litigation and Disputes
Disputes over the value of a business or other ownership interests are relatively commonplace. These disputes typically result from disagreements between shareholders or partners, disputes arising out of a merger or acquisition, the death or disability, or divorce of an owner or other related issues. Many states allow businesses to merge, dissolve, or restructure without unanimous ownership consent. This may result in a dispute that requires a valuation as part of the settlement process.
A business valuation prepared by impartial experts like the professionals at Acuity Advisors can be invaluable to developing reasonable solutions that avoid costly litigation. If litigation is unavoidable, the experts at Acuity Advisors can help support the litigation through sound, defensible analysis, opinions, and testimony.
Valuations for Corporate Planning
Similar to the way one might follow the stock price for a public company, tracking the value of a closely held business can be an effective way to measure performance or provide management incentives. This information can help a business owner decide how to allocate resources and invest to drive growth. Oftentimes, a business owner will reward key employees for growth in value through an equity incentive plan such as stock options, restricted stock awards, stock appreciation rights, or other similar instruments. Understanding the value of the business and equity per share is key to avoiding unwanted tax implications from such grants. In addition, regular valuations of company stock allow business owners and management to measure the growth and efficacy of certain initiatives, and to prepare a framework to reward recipients of equity-based awards based upon performance.
Valuations for ESOPs
An ESOP is a special kind of employee benefit plan that invests in employer stock. ESOPs serve as a qualified retirement plan and allow employees to share in the wealth they help create over time. While some ESOP companies’ stock is traded on public stock markets, the vast majority of ESOP-owned companies are privately held and require an annual valuation per IRS and Department of Labor rules. Typically, ESOPs will require valuation at implementation, coinciding with the sale of stock from the business owner to the trust, and no less than annually thereafter.
This valuation sets the price per share for the ESOP participants. As ESOP trustees have a fiduciary duty to manage the ESOP in the best interests of the participants, having a sound valuation prepared by an expert familiar with issues relevant to ESOP companies is of the upmost importance.
The Right Result
Whether you need a valuation for a future exit, to prepare an incentive plan for key employees, or to comply with federal or state regulations, the experts at Acuity Advisors can assist you in finding that one right result out of the universe of many possible outcomes.