10 Jun Small Business Valuation and Other Small Business Issues in Divorce
Small Business Valuation and Other Small Business Issues in Divorce
If either spouse owns a small business, the Florida divorce process can present unique challenges as to business valuation and other issues. The spouse who runs the small business will invariably think the business is worth less and creates less income than the spouse who does not run the small business. Challenges relating to small businesses in Florida divorces include valuation of the business, obtaining appropriate accountings, books, and records pertaining to the small business, determining how much income, revenue, or profit the small business generates, and establishing the increase in value of the small business that arose during the course of the marriage.
Like any other asset, a small business created during the marriage is considered a marital asset. A small business that existed prior to the marriage would be pre-marital, but the increase in value of the business during the marriage is usually considered to be marital if it was the result of the labor and efforts of either spouse (or both spouses). As you can imagine, many of the issues pertaining to the valuation of a business in divorce stem from the fact there is a lot of gray area. Usually, there are not black and white answers to complex questions of fact.
The value of a small business is determined by a number of factors. In fact, there are a number of different methods used to value a small business. These methods include the Capitalized Earning Approach, the Excess Earning Method, the Cash Flow Method, the Balance Sheet Method, and the Value of Specific Intangible Assets Method. But instead of getting too far into the weeds, let’s focus on how a divorce judge would look at the value of a business.
There are a number of factors the judge would take into consideration. Usually, expert testimony from one or more expert witnesses is needed to provide an appropriate predicate (or, sound foundation) for the valuation. These expert witnesses may include accountants, appraisers, real estate agents, bankers, and business valuation specialists. If this sounds really complicated, that’s because it is. We will put together a team that is appropriate to the facts of your case in order to ensure that your interests are represented.
After hearing from the expert witnesses (from both sides) and reviewing the underlying financial documents, the judge will make a ruling as to the value of the business based on a number of different factors. These factors include the following:
- Fixtures and equipment— fixtures and equipment usually have ascertainable value. What any tangible asset is worth is what price it would secure on the market. Appraisers can be used to place a price on these items;
- Inventory— inventory has value to it. Depending on the type of business involved, the inventory may be valued on a cost, retail, or other basis;
- Real estate and leases— real estate owned by the business has value that can be determined by appraisals. Leases can also have value if the business has rights to sublease or if the lease has a rate locked in for less than current comparable rentals;
- Accounts receivable— money owed to the business are part of the business’s assets;
- Goodwill and customer lists— the business’s reputation, its existing customer base, and its business methods are all examples of intangible assets that can comprise part of a business’s value;
- Cash— money held by the business and not distributed to shareholders is a component of the business’s value.
To determine an accurate value for the business, the divorce court will also need accurate and complete copies of some essential documents. These documents include the profit and loss statements, balance sheets, income statements, tax returns, invoices, receipts for property, equipment and inventory, bank statements, and merchant account statements. Sometimes it is difficult to obtain accurate and complete copies of the necessary documents. In some cases, it is because the person who runs the business intentionally conceals or hides some or all of the critical documents. In some cases, it is because the person who runs the small business does not keep accurate or complete records. Either way, we have experience in divorce cases involving small businesses and we can assist you.
Identifying the profit of a business can be challenging. There is an old saying: “Garbage in, garbage out.” To determine profit, you must have accurate figures for revenue and expenses. If either one of those figures is inaccurate, then your profit calculation will be inaccurate.
With small businesses, we see many cases where the owner of the small business will keep some of the revenue “off the books.” This can occur when they get paid cash for a job, or if they cash a check made payable to the spouse rather than depositing it in the bank account of the business. If your spouse runs a small business and you suspect them may be diverting some of the revenue directly to themselves, we have a number of strategies we can use during the divorce case to get a much more realistic picture of the company’s revenue.
Even more common, we see many divorce cases where the owner of the small business regularly uses the business account for personal spending. For example, they may have a business debit or credit card and use it for all of the meals, movie tickets, shopping trips at the mall, vacations, and nights out on the town. If these personal expenses are not segregated from the true business expenses, then you will have an artificially low profit for the business. Again, we can assist you with the challenging task of determining an accurate profit for a business that is one of the martial assets in a divorce case.
The profit of the business is used for more purposes than just business valuation. Incorrect and inaccurate profit figures can affect child support, alimony, and attorney’s fee awards.
If the business existed prior to the marriage, then the divorce issues become all the more complex. The business may be a pre-marital asset of one spouse, but the value of the business as of the marriage date may be far less than the value of the business as of the divorce. The increase in value may be a marital asset. This is a very complex area of the law and it is beyond the scope of our article. There is no clear cut answer that applies to every case. We can discuss the particular issues of your case during our divorce consultation.
Judges are reluctant to award an ownership interest in a small business to the other spouse. If the ownership interest were divided, then there could be a whole host of problems, including the two ex-spouses having to continue to be financially intertwined as it relates to the business. A much more common outcome is for the judge to determine a value for the small business, and then award half of that value to the other spouse. This can be accomplished through an unequal division of marital assets and debts, or by equitable distribution equalization payments.
Now that you have educated yourself on business valuation, learn some specific strategies that can assist you in your divorce. Contact Board Certified Divorce Expert Charles D. Radeline today at 727-785-1540 for your consultation.