WE HAVE A FAMILY BUSINESS – HOW IS ITS VALUE DETERMINED?

Typing on a calculator and writing notes

A family business is considered an asset of the marriage and will either need to be retained by a party or sold as part of a property settlement. Accordingly, it is important and necessary to ascertain the value of the business when undertaking a division of property.

Unless the parties can come to agreement as to the value ascribed to the business and or the party’s interest in it, the services of an experienced valuer will need to be engaged to assist in determining the value.

The appropriate method of valuation will vary according to the type of business being valued. The approach adopted will be dependent on:

  • Whether a party has a minority interest or owns the business in its entirety;
  • Whether the business is trading or making passive investments;
  • Whether the business is profit making or loss making; and
  • The availability of forecasts and comparable information.

Three common approaches adopted by valuers to determine the value of a business are:

  1. Market Based Approaches;
  2. Income Based Approaches including:
    a. Discounted Cash Flow;
    b. Capitalisation of Future Maintainable Earnings;
  3. Net Tangible Asset Based Approach.

Market Based Approach
Market based valuations are a general way of ascertaining a value by comparing a business to similar businesses that have been recently sold and adjusting for different turnover or size of operation.

Income Based Approaches
Income based approaches analyse the income received by businesses and convert anticipated economic benefits into a present single amount. A discounted cash flow valuation method is predicated on the theory that an asset is worth its future cash flows. This method involves the determination of the net present value based on the projected cash flows of a business. This method is highly dependant on the availability of accurate data and reliable information about future events. If a valuer cannot estimate future cash flows then this methodology will have little value.

The Capitalisation of Future Maintainable Earnings methodology requires the calculation of the expected future maintainable earnings from the business. This involves establishing future maintainable earnings for a business (based on performance in recent financial years), making adjustments based on industry norms and determining the earnings before interest, tax and depreciation. An appropriate capitalisation multiple is then applied to determine the value of the business. The capitalisation rate takes account of the market and industry that the business operates in. This is the most commonly used method for the valuation of businesses with consistent earnings and potential for similar ongoing earnings.

Net Tangible Asset Based Approach
The asset-based valuation method focuses on the value of a business based on an assessment of the fair market value of net assets. This method requires a determination of the current market value of the net tangible assets of the business and is often described as a balance sheet valuation as it involves assessing the assets of the business minus its liabilities. This valuation method is especially appropriate for businesses where the value lies not in the ongoing operations of the business but in the underlying assets, such as real estate holding companies or share investment entities.

The particular valuation method utilised is dependent on a number of factors including the inherent risk of the business as well as external factors such as the particular industry and the economy as a whole.

Valuations of businesses are usually performed by forensic accountants who will select the valuation methodology dependent on their assessment of its financial circumstances and the industry it operates in. For simpler businesses, a business broker / appraiser may suffice.

As experienced family lawyers, we deal with many clients holding interests in a wide range of businesses and have well-established relationships with a number of leading business valuers.

If you hold an interest in a business and are going through a relationship breakdown, feel free to contact our office for further assistance.

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