Why is it important for an attorney to comprehend aspects of business valuation and the various approaches used to arrive at a value? I am often puzzled as to how an experienced attorney exhibits a lack of understanding of the concepts of business valuation. When married business owning litigants or feuding business partners begin the business division or dispute process, a valuation is often performed on behalf of one or both parties. During a recent trial court direct examination, I endured ten plus questions concerning unapplied valuation approaches which were irrelevant as to the final conclusion of value. There was ultimately an objection to the inapplicable questioning. The objection was sustained. An unfortunate blunder of some attorneys is a lack of understanding regarding the valuation process. This can lead to a loss of credibility with clients, judges and juries.
In the practice of valuing a business, there are three primary approaches used. The most likely and accepted approaches are the market, income and asset approaches. The market approach is based upon actual transaction data of similar businesses. This is analogous to a realtor searching the “comps” when assisting in setting a home asking price. Valuation professionals rely upon industry databases to develop the comparisons. The income approach can be broken down into several methods. Typically, only one method is applied but not always. Simply know that there is more than one method that can be applied. These differing methods likely will not yield the exact same answer every time although they should be close. Finally, there is the asset approach. The asset approach is typically the basement level of valuation. It is often but not always applied in the valuation of a company that is in or headed toward liquidation.
These three approaches are sometimes combined and weighted to arrive at a blended value. The decision to use one primary approach or a blend of two or three of the accepted approaches is left to the valuation professional and their expertise and judgment. During the process of arriving at a conclusion of value, all three approaches must be examined and presented as part of the valuation. It cannot be understated that it is a requirement of the accepted business valuation standards that all three approaches must be considered. The most common exception to the rule is a lower level of valuation known as a calculation of value. Never accept a ‘calculation of value’ in a situation where trial is imminent. Likelihood of challenge is high.
It is important to note that the valuation analyst must supply valid reasoning behind the weight and or blending of the valuation approaches. A challenge of the valuation analyst’s judgement in the choice of a single approach and or approach blending is a ripe arena for direct examination impeachment during deposition and or trial.
Back to our initial question, why is it important for counsel to understand the aspects of business valuation approaches? The answer is simple; it shows the client, the jury, the court and opposing council your competence and broad knowledge. That builds trust and that wins cases. Do not allow yourself to get lost in the woods as the attorney who examined me did.