Business Evaluation FAQs:
What happens in a case where there is a business or property owned by the couple and one of the spouses has no involvement in the financial affairs? How do they make sure they get their fair share when they go through a divorce?
It’s very important, especially in a situation where a spouse has not been involved in the operation of the business, that they first make sure that they have all the information as to what they have in terms of assets. We do a lot of discovery and request for production of documents; we will hire forensic accountants, business appraisers, and other experts to come in and take a look at the operation of the family business.
In many cases, it is literally hiring somebody to go to that business, sit down with the other side, and have them explain how the business operates, look at the profit law statements, look at their tax returns, look at their cash flow, their receivables, and their cash payables.
Even though you hire a divorce attorney, often they are really on the job of assessing how somebody runs a business, and whether or not it is easy to ascertain value. The other thing you have to do is to make sure that you understand what you’re trying to get. Realistically, if you have a spouse that has not been very involved in the business, then they are not going to be very involved in the business post-divorce. You’re not going to get them a percentage of ownership in the business, you’re typically going to get them some value or even other assets or get them cashed out.
So, you end up in a situation where you’re not only doing a divorce decree, you may have to do a new partnership agreement. You may have to go in and change by-laws in a corporate document because they’re incorporated. You may have businesses that are all through trust, you may have to go in and change trust documents, and in those cases a lot of times we are bringing in other attorneys that have expertise in those areas that can help us with reorganization of the business as part of the divorce process.
What happens if you are dealing with businesses or properties that are in other states or other countries?
I’ve had several cases involving property located outside of Texas and it is an interesting issue. When you are in court discussing those issues, you have a situation where the judge has jurisdiction over the person that is in front of them but they really don’t have jurisdiction over the property that is located in other states.
So, what they can do is order a division of the property. They can order a person to sell the property or they can award a percentage of property to the other spouse. However, you sometimes run into enforcement issues, because if it is an issue where the property has to be sold and one side is trying to block the sale, then you may have to go hire an attorney in that other state to go ask for a receiver to be appointed over the property to get it sold.
That’s one of the areas where being part of the American Academy has helped me, because I’ve had situations where I had to contact an attorney in Florida or an attorney in New York to get assistance on an enforcement issue.
Likewise, I’ve had calls where attorneys in other states have had jurisdictional issues in Texas and they have called and asked me to handle the jurisdictional issue here. It’s good to have that contact. The division is easy; it’s enforcement of the order that becomes the difficult issue.
For business owners, is there a difference between valuing a business for the purpose of a divorce case versus evaluation if you were selling the business?
Absolutely, there is. You have to be very careful in this area, because selling a business to a third party involves a lot of variables.
Oftentimes, there would be the requirement of a non-compete for the owner of the company for a period of time. And that non-compete has value. In a divorce case, you have to value a business as if the spouse has the ability to literally walk across the street and open up the same business under a different name.
In companies where it appears there is a lot of value, you are going to see discounts from an evaluation standpoint for marketability. You may see a discount for a situation where they deal primarily with one or two customers, because those customers, in theory, are going to leave the business and go with the divorcing spouse if they open up another business. So there’s a significant difference there from an evaluation standpoint.
In Texas, personal goodwill is not a community asset. And oftentimes, especially in smaller businesses, the argument you are going to make is that the value of this business is based on the personal goodwill of the owner.
If that’s the case, then it has little value. You have to find a business appraiser who can separate the commercial goodwill from the personal goodwill. By commercial goodwill I simply mean will this company still have clients, customers, employees, capital, and continue to operate even without that party being part of that business? There are a lot of companies that will.
For a professional practice, like a doctor, a dentist, or a lawyer, is it the same process for valuing the business? Is the distinction between the goodwill and corporate value different in that situation?
It’s the same process. That’s where you run into that issue specifically. Oftentimes, I’ve handled divorce cases involving medical practices, and the first thing they say is if they’re no longer the doctor, their patients are going to go some place else.
It is the same issue. Often, you are looking to see if they are in a professional association and is the association able to take on any of those patients? If so, then it would still have value interest and a professional association would still have value.
If you are a fellow practitioner, it’s going to be very difficult to find value in that practice, especially in the medical or legal field. If you’re a sole practitioner in a law firm and you’re not operating that law firm, there’s not going to be much value at all.
At that point, you really focus on things like whether they own other property within the business. Did they buy a building? Do they have equipment? What value is that equipment? You look at their cash flow and maybe your analysis goes from purely to a capitalization of their income. So, based on their 4 or 5 years of income, can you determine that there is a value even with that being the sole practice? It becomes more complicated, but it is basically the same process.
Our starting point generally is to hire a business appraiser that has testified before in court and that has worked and appraised that type of business. You have to make sure that the appraiser understands your business and has experience with that business. You need to make sure you have somebody that understands, not just the accounting principles, but also the business that you are dealing with.