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Business Valuations, Appraisals,
and Experts

Introduction
Organizations and Standards
What to Expect from a Business Valuation
How to Choose an Expert

Introduction

This section will provide the reader with an introduction to the field of the business valuations, what to expect from a business valuation and how to choose an expert. The act of valuing a business traditionally has been known as performing a business appraisal. More recently, those analysts performing this service prefer the term "valuation" to distinguish themselves from those who appraise tangible property, such as jewelry, antiques, collectibles, equipment and real estate. Some analysts also appraise these items as well, but when they estimate the price at which a willing buyer and willing seller would agree is the value of the business, they often use the more modern term valuation, rather than appraisal. None the less, either term is acceptable.
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Organizations and Standards

The field of business valuations is totally unregulated; there are no governmental regulatory bodies licensing or testing of individuals as there are for other professions, such as doctors, lawyers, and certified public accountants. Anyone can claim to have the expertise to do business valuations. It is very much a "buyer beware" business. Three organizations attempt to impose certain standards upon their members and offer certifications. Each of these organizations requires some form of written test and usually submission of a sample valuation report for review.

The National Association of Certified Valuation Analysts (NACVA) in Salt Lake City, Utah is an organization composed solely of certified public accountants. The Institute of Business Appraisers (IBA) is located in Boynton Beach, Florida. It was the first organization to establish a set of business valuation standards. Its membership is the broadest including business brokers, real estate appraisers, certified public accountants, and others. The third organization is the American Society of Appraisers (ASA), located in Washington, D. C. It was the last of the three organizations to develop a set of standards specifically for business appraisers. The ASA is the oldest organization of appraisers, but did not recognize the specialty of business appraisal until relatively recently. Each of these organizations has developed similar standards which may be requested, sometimes for a small fee. Recently, within the last five years, the American Institute of Certified Public Accountants (AICPA) has initiated a program in business valuation specialization. Largely as a marketing opportunity for the continuing education courses it offers, it reluctantly got into the field. It traditionally maintained that the Certified Public Accountant certification was all that accountants needed not only to perform their CPA duties, but to perform business valuations as well. The AICPA program has been revised several times in the last few years. It remains to be seen how influential this program will become given that many CPAs have cast their lot with NACVA or the IBA.
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What to Expect from a Business Valuation

When one hires a company or individual, the customer should inquire just what will be obtained as the end product. This will be determined somewhat by the professional standards of the organization to which the appraiser belongs, and somewhat by the customer. Sometimes, the customer desires only a limited investigation and a verbal report of value. When a customer requests a written report, one must be more careful in the request. The customer may only get a one page cover letter explaining what business interest was valued and the value of that interest. The remainder of the report may be only "boilerplate" and disclaimers meant to protect the appraiser. Even worse, the report may state that the "value" cannot be used for the purpose intended, such as litigation, without further fees or a more elaborately written report, and that the appraiser will not appear at any hearing to defend the value.

This kind of report can be a waste of good money unless the customer understands beforehand just what will be conveyed by the appraiser and what the restrictions will be on the use of the report and appraiser. Without any explanation of how the appraiser reached his or her conclusions, one cannot judge how competently the appraiser performed the assignment and whether any credence can be placed upon the value.

Without any details given, one cannot really trust such a valuation. The calculations cannot be tested even for arithmetic accuracy, much less the thought processes of the analyst. However, one should remember that information has a price. A written report will cost more. None the less, if a report is not persuasive, what good is it? If the report is desired for litigation purposes, the attorney might not want a full written report. In that case, the attorney and client should thoroughly question the expert as to the assumptions made, methods used and extent of analysis done. An understanding, preferably in writing, should be obtained as to whether the expert will agree to appear as an expert based upon the work product and what, if any, additional fees will be required. Experts differ significantly in their manner of charging for litigation.
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How to Choose an Expert

Perhaps all the customer needs is a "ball park" estimate, and a sand-lot one at that. Several books have been published giving "rules of thumb." The local business broker may be consulted as well. However, when one needs a real value with real confidence, the customer needs a real expert. Rules of thumb just will not do. These "rules" often ignore the characteristics of the business to be valued. For instance, the rule of thumb may value the business at the value of the inventory plus some percentage of sales. This "rule" would value all businesses having the same inventory and sales the same, regardless of how profitable the business is or its prospects. A similar problem arises with valuing a business with the so-called formula method or Treasury Method. The business would be valued the same in 1929 as 1998, whether the economy was in a recession or expansion. The many problems of this method have been enumerated (see Kasper, Larry, J., "Excess Earnings or Formula Method for Estimating Goodwill and the Value of a Business," The Valuation Examiner, Fourth Issue, December 1995 and continued in January-February 1996). Unfortunately, real experts do not come cheap.

Part of the problem with choosing an expert is that very few colleges offer a course, let alone a major, in valuing a privately held business. The next best major is probably finance with accounting a close second. Some studying economics also possess the training. A healthy mix of all three is preferable. Given that very little formal higher education is available, most business appraisers or valuators are self-taught or have taken courses through their member organizations. Still others have little more than on-the-job training to recommend themselves. They would defend themselves as having the best training, but ask yourself if you would want a doctor who had only on-the-job training.

One learns, stays current, and grows by teaching and publishing. Ask what articles the expert has published in professional journals, not just PR articles in trade journals and newspapers. Ask what courses they have written and taught to other professionals, not just speeches given to general audiences.

As for experience, experience by itself means nothing. If a friend told you that an artist was having a viewing and that the artist had painted extensively, you might be tempted to go to the gallery. If upon arrival, you observed that every painting was of Elvis in iridescent color on black velvet, you might be tempted to reevaluate your friend’s taste and judgment. The painter may have lots of experience, but not of the kind that would make an artist. Similarly for business valuators, one who has performed hundreds of appraisals may simply have sacrificed quality (but not financially). Indeed, some of the younger members in this field with less experience may be more qualified due to their more recent formal education. If experience were all that counted, only gray-haired valuators would exist. (On a personal note, the brown in my jaw-line beard is mostly a fond memory.) Neither is it necessary that the valuator has valued your kind of business previously. Every privately held business is unique, but the valuation techniques are the same for every business. It may take more research if one has not valued a particular business before, but even if one has, most likely the research would need to be updated anyway.

Finally, do not overlook the existence of a valid but-sell agreement. It may specify the value and an expert would not be needed.

When you need a convincing, defensible valuation report, go with the one who wrote the book on the subject. You may call me during normal business hours, e-mail, or write me by choosing Contact  above to discuss your business and economic loss valuation needs.
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