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Business Valuations: A Family Business Tool

Business valuations potentially play a variety of important roles in family businesses. Most commonly, they are an important aspect of estate and gift tax planning in the context of ownership succession planning. Buying or selling of businesses is another obvious area in which valuations are important.

For businesses whose daily valuation cannot be looked up in stock market quotations, valuations fulfill important functions. Employee stock ownership plans (ESOPs) require annual valuations. Shareholder agreements can also require objective valuations. Shareholder disputes, especially those involving litigation (including divorces), often require valuations. Phantom stock programs are sometimes driven by formal valuations. Sometimes family businesses maintain an internal market for shareholders with price determined by valuations. As family business executives are increasingly held accountable for total returns to shareholders, annual formal measurements of company value are increasingly utilized.

In some ways, valuation seems simple. A rule-of-thumb multiple can be applied to earnings, sales, book value or some other statistic, and a ball park value can be calculated on the back of an envelope. An entire small industry, however, has developed for those who seek a more scientific and objective approach.

Valuation professionals often have professional accreditations attesting to experience and specific knowledge. They gather specific information about the business being valued and evaluate that information from a variety of perspectives. Then they compare that business to a universe of similar enterprises with values known either through public trading of shares or because of recent sales. Finally, an extensive report is produced, usually full of charts and graphs, to show interested parties how conclusions about values were reached.

Several national firms, like Management Planning Associates, The Geneva Companies, or Houlihan Lokey, specialize in business valuations, often in conjunction with mergers and acquisitions practices. National accounting firms like Arthur Andersen, and even local accounting firms, actively offer business valuations, as do major banking organizations.

An interesting new approach to business valuation is being offered on-line at www.virtualadvisors.com. Rather than using labor-intensive interviews to gather necessary information, the business owner inputs the data on-line using a comprehensive but user-friendly questionnaire. In this way, all routine elements of the valuation process are automated, while analysis and judgment are still performed by experienced professionals using sophisticated techniques. A highly readable and relatively easily comprehended report is produced in five business days at a cost of $2500 – a fraction of what most business valuations cost.

While many family businesses resist professional valuation services, we frequently encourage their use. Professional objectivity helps all parties to be on the same page. Tracking value provides management with a meaningful strategic tool and the board with a vital accountability measurement. And if a good valuation report is presented well, it can be an exceptional educational tool at shareholders meetings.

Building financial value is only one of the ways in which family businesses can create value – but it is important and important to measure. Used properly, financial value can be the mechanism that supports all the other values that a family business might pursue.

 

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