Dividing A Business In Divorce? Beware These Common Errors In Business Valuations

Divorce proceedings have a lot of moving pieces, and a diverse cast of individuals and professionals may need to be brought in to play their part. If your divorce requires that you have a business valuation conducted, you may need to engage with many specialists, including brokers, certified public accountants, financial analysts, etc. It is important that each necessary piece of the divorce be conducted properly, and that no piece suffers from a simple lack of knowledge. While every professional might be an expert in their own field, they may not necessarily know all of the ins and outs of another piece of the puzzle. This can lead to some serious errors when you try to bring the whole puzzle together.

To ensure a smooth business valuation is conducted in your divorce, it is a good idea to keep an eye on a few areas that commonly go awry. With a watchful eye, many problematic issues can be corrected before any real trouble arises.

I: Choosing a Valuation Method that the Court Cannot Accept

Market Value Method

The market value method can be a legitimate way to valuate similar businesses. However, it is prone to significant error and may be deemed an invalid valuation by the court if the method is not conducted correctly. A common error made when conducting this method is to compare the price-earnings ratio of a “similar” public company to the price-earnings ratio of a private company.  The California courts have held that it is invalid to conduct a business valuation by solely comparing a privately-held business to a public business. (See In Re Marriage of Hewitson (1983), and see in Re Marriage of Lotz (1981)).

Discounted Future Earnings Method

Another valuation method that is not appropriate in all circumstances is the “discounted future earnings method.” While acceptable for certain companies, the court will not accept a valuation of a professional practice utilizing this method. This method judges the value of a company by looking at the present, “discounted” value of the company and considers the projected future earnings of the company. For example, the court would find invalid an attempt to value a pediatrician’s medical practice by looking at the past and present earnings, and projecting that in the future the practice will generate X, Y, and Z earnings. The California courts find the approach inconsistent with the community property legal philosophy that community interest in property can only be acquired during the course of the marriage. By assigning post-separation interest in a company to the ex-spouse, the court would be violating community property principles. (See In Re Marriage of King (1983)).

Omitting Certain Assets or Liabilities

Some assets or liabilities may be easy to overlook just given their nature. For instance, some projects or services may be a “work in progress” when the valuation is conducted. This would mean that the business is receiving some type of service or improvement, but the final bill for those services will only come due once the entire project or a pre-set portion of it is completed.

Let Us Help You Today

There are many items that require close attention when your business is undergoing valuation in the course of a California divorce. The experienced San Francisco divorce lawyers at Cardwell, Steigerwald Young understand what items tend to be problematic, and can help you navigate these next steps with confidence. Contact our office today to speak with a professional regarding your case.

Sources:

caselaw.findlaw.com/court/ca-court-of-appeal/1835651.html

caselaw.findlaw.com/court/ca-court-of-appeal/1838196.html