David Anderson is principal of David Anderson & Associates, a Philadelphia forensic accounting firm that provides a full range of business valuation and other forensic accounting services in Philadelphia and the Delaware Valley. This is the final installment of a five-part series in which Anderson reviews the basics of business valuation.
The process of determining the worth of a business is a complicated one. A business valuation expert must undertake a series of preliminary steps to set the groundwork and then consider the value of the business from three very distinct approaches before forming a professional opinion as to the initial value. With this process completed, there remains just one final step: considering potential adjustments to the initial value.
“The process is complex,” said David Anderson, principal of David Anderson & Associates, a Philadelphia forensic accounting firm that provides a full range of business valuation and other forensic accounting services in Philadelphia and the Delaware Valley. “There are myriad factors that must be considered and weighed by the valuator to reach the point of establishing initial value. But that initial value still is not accurate until possible adjustments to the value are considered.”
Anderson said business valuation experts must consider four types of potential adjustments:
- Non-operating asset adjustments
- Control adjustments
- Marketability adjustments
- Other adjustments
Non-operating asset adjustments involve assets and associated liabilities that are not part of the normal operations of a business, according to Anderson, a business valuation expert in Philadelphia and the Delaware Valley. As an example, Anderson explained, a food processing company may own a collection of artwork that is not related to its business operations. Or, a computer consulting firm may own an office building (with a mortgage) that it does not use but leases out to other companies.
Valuators may remove these assets and liabilities from consideration during the business valuation process in order to more accurately assess the worth of the actual business operations, Anderson said. But once the initial value of the business has been established, these assets and liabilities must be considered because they are owned by the business and therefore affect its overall value.
Control adjustments may be warranted if a business valuation expert is considering the value of some, but not all, of the shares of a business, Anderson said. If the shares being valued would give a buyer control of the business, they carry a higher value than other shares.
For example, Anderson said, a buyer would have control of the company if either the shares are more than 50 percent of the total or they give the buyer more than 50 percent of the total voting rights (assuming a simple majority is all that is required). However, if the shares represent a “minority interest” in the company, the buyer would not have control or significant influence in company operations. Under that circumstance, Anderson said, the buyer is likely to demand a price adjustment known as a discount for lack of control. The specific discount (usually a percentage of the price per share) is typically based on data from sales of shares in publicly held corporations.
Marketability adjustments come into play when privately held businesses are being valued, Anderson said. Typically, there are no readily available public markets for privately held businesses. As a result, it is more difficult to sell shares in a privately held business because it likely will take longer and cost more to find a buyer.
A buyer of shares in a privately held business, therefore, is likely to demand a price discount known as a discount for lack of marketability. The specific discount (usually expressed as a percentage of the value of the business or of the price per share) is typically based on the valuation method(s) selected by the business valuation expert, information regarding marketability discounts of comparable companies, and the particular facts and circumstances of the business being valued.
Other adjustments the business valuation expert must consider to determine if they are applicable include:
- Built-in gains discount
- Blockage discount
- Key person discount (also known as personal goodwill discount)
- Restrictive agreement discount
- Investment company discount
- Lack of voting rights discount
Once all potential adjustments have been applied as necessary, the business valuation expert can finally arrive at a final value for the business.
“As you can see, the process of valuing a business is quite involved,” Anderson said. “When a business valuation is made for tax, divorce or litigation purposes, the best way to properly protect the rights of the persons for whom the valuation is being performed is to have the valuation conducted by a qualified, experienced business valuation expert who follows professional business valuation standards.”
If you require the services of a business valuation expert in Philadelphia or any other forensic accounting services in Philadelphia and the Delaware Valley, please contact the Philadelphia forensic accounting firm of David Anderson & Associates by calling David Anderson at 267-207-3597 or emailing him at email@example.com.
About David Anderson & Associates
David Anderson & Associates is a Philadelphia forensic accounting firm that provides a full range of forensic accounting services in Philadelphia and the Delaware Valley. The experienced professionals at David Anderson & Associates provide forensic accounting, business valuation, fraud investigation, litigation support, economic damage analysis, business consulting and outsourced CFO services. Company principal David Anderson has more than 30 years of experience in financial and operational leadership positions and is a Certified Public Accountant, a Certified Fraud Examiner, a Certified Valuation Analyst and a business valuation expert in Philadelphia.