Nuts and Bolts of a Closely Held Business Valuation

The Nuts and Bolts of a Closely-Held Business Valuation

One question frequently asked by business owners as they consider our team to perform a closely held business valuation is: “Exactly how does one appraise a closely-held business?”

The answer: Depending on the purpose of the valuation (also commonly referred as an “appraisal”), three approaches must be considered. Additionally, within each approach, there are also certain methods to be employed.  

They are as follows:

• Market Approach
  • Guideline Public Company Method
  • Transactions Method
• Asset-Based Approach
• Income Approach
  • Discounted Future Returns Method
  • Capitalized Historical Returns Method

The selection of the approach and related method is based upon myriad factors, such as the size of the subject company, the availability of reliable financial information about the industry, the historical financial performance of the subject company, the outlook for the company’s future, and more.

The performance of a thorough Business Valuation includes the following steps:

• Identify the purpose of the valuation
• Identify the valuation date
• Define the Standard of Value and the Premise of Value
• Define the intended users of the valuation
• Obtain financial and certain qualitative information of the subject company, including such things as names of competitors and customer concentrations
• Research the subject company’s industry
• Perform a financial analysis of the subject company
• If necessary, make normalizing adjustments to the financial information
• If possible, visit the site
• Conduct a management interview
• Select an appropriate valuation approach(es) and method(s); more than one may apply
• Apply the selected approach(es) and method(s)
• Prepare and issue a formal written report

A competent business valuation entails research, analysis, and thoughtful judgment on the part of an experienced business appraiser. Depending upon the purpose, the business valuation must also comply with certain IRS regulations. It is also important that the business appraiser does not “dabble” in the business valuation arena. Indeed, the body of knowledge applied in the performance of a well-done valuation is often referred to as “art based on science.”

As with most aspects of business, planning and setting a realistic timetable is imperative. The amount of time needed to properly conduct a business valuation depends on many factors, including the chosen approach, quality of records, availability of key personnel, industry, geography, etc. It is vital to plan accordingly, depending on the purpose of the valuation. For example, for a company looking to go to market, a business valuation may be an initial step in setting the price, but may also offer opportunities to enhance the value based on the appraiser’s findings.

The federal estate and gift-tax exemption is currently $11.7 million per individual, and $23.4 million per couple. There is a possibility this limit may decrease soon and with potentially little time to plan. Having a current business valuation allows business owners to be well-informed and nimble in their gifting. For example, if the limit drops to $5 million, an individual would have saved taxes on $6.7 million had they been prepared to gift before the exemption went down.

Article contributed by Mark Caltagirone. For additional information contact us at info@herbein.com.