For many business owners, obtaining a business valuation could be a new endeavor. Once you have made the determination that your business needs to be valued, it’s time to become more familiar with the business valuation process. As the first blog post in a series about the basics of business valuations, below we discuss the most common steps taken in a business valuation engagement and the financial information that a business owner will need to gather.
Step #1: Find a Valuation Analyst
Look for a valuation analyst who holds one of the common valuation credentials. These credentials include but are not limited to: Accredited in Business Valuation (ABV), Accredited Senior Appraiser (ASA) and Certified Valuation Analyst (CVA). A valuation analyst must attend education courses, pass exams and complete required experience hours to obtain such certifications. Selecting a certified valuation analyst is a key step in the business valuation process.
Step #2: Confirm There Are No Conflicts of Interest
Once you find a credible valuation analyst you would like to work with, you should confirm there are no conflicts of interest between the parties to ensure that the valuation will be free of bias. For example, when gifting shares in a business, the accounting firm that prepares the gift tax return should not also be the firm that prepares the business valuation of the gifted shares which are disclosed on the gift tax return.
Step #3: Determine the Scope of the Valuation
Understanding the full scope of what you need from a business valuation will help you and your valuation analyst work together seamlessly. Dig into the why, who and when and have firm answers to the following factors:
- Purpose – The purpose of the valuation engagement describes why the business is being valued. Some common reasons for a valuation include, but are not limited to:
- Tax compliance: estate, gift, charitable contribution, etc.
- Litigation: divorce, shareholder dispute, economic damages, etc.
- Financial reporting: goodwill impairment, purchase price allocation, etc.
- Buy/Sell Transactions – sale, exit planning, etc.
- Ownership Interest to be Valued – This is the percentage or number of shares that the valuation analyst is to value. The ownership interest can be controlling or non-controlling, marketable or non-marketable and/or voting or non-voting. We’ll discuss the difference between these types in a future blog post.
- Valuation Date – This is the date at which the valuation analyst is to determine the value of the ownership interest being valued.
- Type of Report to be Issued – Under AICPA business valuation standards, the valuation analyst can issue one of three types of reports: detailed report, summary report or a calculation report.
Step #4: Execute an Engagement Letter
Once the valuation analyst has confirmed there are no conflicts of interest and the scope of the engagement has been agreed to, an engagement letter should be executed between both parties. This engagement letter typically outlines the scope of the engagement and includes additional items such as the standard and premise of value, the intended users and any restrictions on use of the report, the fee schedule and the form of work product.
Step #5: Gather Documents and Prepare for A Management Interview
Once the engagement letter has been executed, the valuation analyst will prepare a document and information request. This request typically includes the following items:
- Five years of historical financial data which may include tax returns, audited financial statements, and/or projections, budgets and forecasts.
- Questions regarding a variety of topics, including personal expenses, extraordinary/non-recurring expenses, off balance sheet liabilities and pending litigation.
- Questions regarding business risks related to customer and supplier concentration, industry standards and competition, and strength and weaknesses of the business.
Setting the groundwork for the engagement is key to a successful and effortless process and the above steps help build the foundation of the valuation engagement. The next blog posts in the series will discuss standard and premise of value, the three valuation approaches, the three types of reports and different discounts or premiums applied in a valuation. The Anders Forensic, Valuation and Litigation team has experienced valuation analysts that can help you through the valuation process. Contact an Anders advisor below to learn more.
