ValuAdder Business Valuation Blog

In the US alone, business owners and managers spend over $1 billion a year to determine the value of businesses and professional practices. So what prompts business people to conduct business valuation? Here are the most common reasons:

Buying or selling a business

Business acquisition is perhaps the best known reason to value a business. If your are a business seller or buyer, you need to determine what the business is worth to set a sensible asking price or make a compelling offer.

Gift and estate (ad valorem) taxes

Given that the gift and estate taxes rank among the highest, accurate and defensible business valuation is essential if you are to minimize the tax burden once the business ownership transition takes place.

Securing debt or equity financing

If you are a business owner looking for equity financing, you will do well to figure out your business value before offering a share of your company ownership to outside investors. And lenders often require business valuation as part of their due diligence for loan approval.

Partner buy-in and buy-out

The value of business ownership interest matters to business partners who decide to go their separate ways. It may come as a surprise that a non-controlling partnership stake in the business, known as a minority ownership interest, can be worth less than its pro-rata share.

Unless there is a prior agreement on how to calculate the value of a partner’s business ownership interest, it may be discounted due to lack of control.

Buy-sell agreements

It is a very good idea to define ahead of time how to establish the value of such ownership interests as part of your buy-sell agreement. Buy-sell agreements usually include a provision to repeat business valuation regularly, at least once a year.

Legal disputes – divorce and partner disagreements

Legal disputes often call for a business to be appraised. What if the parties do not agree on what the business is worth? Then the court may order an arms-length business appraisal and compel both sides to be bound by the result.

ESOP plans

ESOPs are another frequent reason for a regular business valuation. While providing the employees with an opportunity to become business owners over time, ESOPs offer excellent tax benefits to outgoing business owners.

However, because an ESOP is a tax-qualified employee benefit plan, it must comply with the ERISA Act of 1974. A key question you need to address in an ESOP:  how much ownership in the business the current shareholders want to sell and over which time period. This creates the need for business valuation, in particular:

  • Upon the first purchase of the company’s stock by the ESOP.
  • At least annually thereafter.
  • In the event of a transaction with a related third party, known as the prohibited transaction.
  • If the ESOP sells out.
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