Valuation of a Business During a Divorce: Why Forensic Work is Important

Community property valuation during a divorce is an important part of these proceedings, and many complex instances involve business valuation.

A Brief Review of Property Division

We previously discussed how California law divides property in a divorce in more detail, but here’s a brief refresher:

• During a divorce, California places property into two groups: separate property and community property. Separate property is what the parties owned prior to marriage, inheritance, and gifts. The courts do not include separate property in divorce proceedings. Both spouses own community property and thus divide it between the two parties upon divorce.
• Once all the community property is identified, professionals estimate the property’s value.
• The property is divided based on its estimated value.

Businesses count as property; however, because a business can have many assets and its own income, it can be particularly difficult to determine it’s value.

Valuation

In most cases, there are three methods to determine a business’ value: an asset approach, a market approach, and an income approach. No matter which approach or approaches a case utilizes, independent valuation experts—such as a Certified Public Accountant (CPA) accredited in business valuation—will need to get involved. 

The Asset Approach

The concept of an asset approach is straightforward: you take the assets’ value and subtract liabilities’ cost. This is a bit more complicated than balancing a spreadsheet, however, as there are certain intangible assets to take into account. Trademarks and patents are two notable examples.

The Market Approach

A market approach employs the same principles as selling a house, car, or other property. With a market approach, you look at similar businesses for sale or sold recently, account for the differences between that business and the business being evaluated, and estimate the cost. 

Income Approach

With an income approach, the business’ value comes from the present value of its future cash flow or earnings. Once you determine the business’ projected income, you adjust the value for changes in growth rates, cost structure, taxes, and so on.

Forensic Accounting

In all these instances, forensic accounting work helps calculate the business’ value. While a CPA or other valuation professional may notice numbers not adding up, a forensic accountant has the training necessary to get to the root of the issue.

Since any discrepancies could lead to issues in valuation, it’s important to employ a forensic accountant alongside your valuation professional. The two should work together to normalize any discrepant or erroneous numbers and determine a business’ true worth.

Ready to see top-notch forensic accounting at work? Please reach out to us today!