The Surprising Value of a Business in Divorce Proceedings.

January 2, 2016

Divorce filings tend to spike by one-third during the early months of the year compared to other months. While some individuals focus on losing weight or saving money, others face the daunting task of dividing marital assets. Valuing and dividing a business asset can be particularly challenging in divorce cases, and it’s essential to understand the implications.

A business asset may be the most difficult asset to split or value while going through a divorce. Depending on whether you are the one keeping the enterprise or receiving a settlement on its value, your expectation of value may be surprising.

Fair Market Value

Most commonly, the standard of value for assessing a business in family court is “Fair Market Value.” Fair Market Value is defined in Canada as “the highest price at which the property would change hands between a willing buyer and a willing seller, when the former is not under any compulsion to buy and the latter is not under any compulsion to sell; both parties having reasonable knowledge of relevant facts”. There are a few bombshells lurking in here for those valuing their businesses. I will highlight two of them.
One: Fair Market Value is not typically the standard of value when you assess your business for the purposes of a sale. This is sometimes referred to as enterprise value. Enterprise value is closer to the price when you know who the buyer is, or is likely to be. For example, if you are going to sell your store you may approach your competition or a corporate buyer. You know that they might be willing to pay a bit more for your store because of competitive advantages. This may result in a higher value than a Fair Market Value standard would allow given the family law standard contemplates a hypothetical buyer – not a specific one.
Two: In a Fair Market Value standard, a minority interest in the business may be a reason to discount the value of that minority interest. In this standard a 20% share, for example, may not be valued pro-rata. That is, 20% of the shares do not receive 20% of the price in a hypothetical sale of the company – as these shares do not control the company.

Shareholders Agreement

Your shareholder’s agreement holds looming and surprising contents, especially for multiple owners. The shareholder’s agreement may state that the company can trigger a default event and repurchase shares subject to a matrimonial order, sometimes at a discounted rate. Additionally, the shareholder’s agreement could outline an unexpected value premise. For default valuation, the company may have chosen the book value premise instead of a going concern, disregarding any goodwill associated with the business.
Family courts typically do not take future growth into account, which may not surprise you. When determining the true value of a business, it is important to consider the potential for growth if it is likely to happen. However, when valuing marital assets in a divorce, future growth is often overshadowed by the emphasis placed on historical earnings.

Depending on what side of the equation you are on, the value of the Business asset may be surprisingly pleasing or as unattractive as your pending legal bill. To avoid these surprises, it is  advice to seek a professional assessment of your asset from the perspective of the courts and review your shareholder’s agreements.