Be wary of valuation calculators on the websites of many business valuation and M&A advisory firms. These calculators allow business owners to enter basic financial data and quickly retrieve the “value” of their businesses. Many of these products describe the final result as a “business valuation”. While it may be appealing for owners to receive a free, quick and easy valuation, the results should not be relied upon. Remember, you get what you pay for.
Most people are aware of the litigious nature of our culture, and are clear on the notion that people are increasingly willing to play the “blame game” in the courts. At the risk of stating the obvious, when confronted with circumstances wherein the pursuit of a monetary damages claim is appropriate, it is first and foremost essential that one engage experienced legal counsel. Secondly, engaging a capable financial expert that can provide key insights to legal counsel early in the game is essential. In that regard, your financial expert should possess credentials that address a wide spectrum of knowledge, including corporate finance, quantitative economics, valuation, solvency and fairness, intellectual property and financial forensics. These skills, amongst other things, will lead to a supportable conclusion as to the quantum of the prize with “reasonable certainty;” a conclusion that will take into account all of the possible factors that might arise in the courtroom setting, whether they favor or disfavor one’s position.
The differences between controlling interests and non-controlling interests are many and manifest themselves in ways that affect both the operations of the company and the valuation of the interests in question.
While it may seem at face value (pun intended) that the value of a note is equal to the outstanding principal balance; this is often not the case. The fair market value of a note is dependent on several factors, two of the most important being “counter-party risk,” which means the creditworthiness of the debtor, and cost of capital at the date of analysis. Understanding the creditworthiness of the debtor is the more complicated of the two, and potentially involves analyzing the debtor’s financial condition, and could involve a fairly complex analysis of an operating company, including an analysis of quality of assets and cash flows, the determination of a corporate credit score (Z-score), and other such analyses that are typical for underwriting debt. As an ancillary consideration, the lender should require access to relevant records so as to be able to perform such analyses if necessary.
My good friend Peter Kawulia, 78, is a distinguished member of the Manitoba Sports Hall of Fame, and the third-ranked featherweight boxer in the history of the British Empire(1). In that Pete was never knocked out, and was cut only once in 115 bouts, he knows his way around the ring. If Pete were to share his thoughts he would undoubtedly say that regardless of his awe-inspiring talent, whom he had in his corner was crucial to his success. The heirs of Helen Richardson(2) recently learned the importance of this choice, as clearly they could have avoided a knockout and the resulting “medical bills” with the right professionals in their corner.
How do you determine the value of an undivided interest in real estate? That is the question from numerous readers of my January newsletter (here), besides their seeking insight to the case specifics I discussed. For background purposes, the IRS attempted to disqualify me as an expert in the case because I am not a real estate appraiser. The Court eventually accepted me as an expert based on my experience in valuing similar interests, rather than deciding based on the nature of the interest. I believe valuation should be done as a “security” and the IRS view is one of a “real property interest.”
In preparing for a recent trial in US Tax Court, I was reviewing a valuation we had performed several years ago. The valuation was of a 40% undivided interest in real estate, a tenant-in-common (TIC) interest. There was no formal entity into which the real estate or the interest had been contributed.
Regulators from the Public Company Accounting Oversight Board (PCAOB) to the Securities and Exchange Commission (SEC) Enforcement Division are turning up the heat on valuations used for financial reporting of private equity groups (PEGs) and publicly traded companies. This increased focus emphasizes the importance to use qualified independent valuation specialists to ensure compliance with existing and changing requirements, along with peace-of-mind for management and investors.
In general, the idea of lending money to our children can bring mixed emotions. Just the idea of putting our dollars into their hands can cause angst. Will the kids use the money wisely? Will they repay the loan as promised? What are the impacts to our own finances? These are all valid concerns under normal circumstances – assuming the children need the money. However, there are reasons to lend to our children that have little to do with their needs. Lending to our heirs is an estate planning tool that works, and the valuation implications can be significant.
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