When sales are strong and market conditions are favorable, business operations tend to run smoothly. However, economic uncertainty can take a toll on a private business — and shareholder relations. Owners may be at odds about how to handle unexpected changes in market conditions. Or they may grapple with various business decisions. Should the company increase prices to cover mounting labor and input costs? Should bonuses and dividends be paid this year? Should they sell off an unprofitable business segment?
Ultimately, disagreements about the appropriate business strategy can lead to shareholder buyouts and costly litigation. A business valuation professional can help settle these matters — both in and out of court — allowing the remaining owners to refocus their attention on building and preserving value.
Case In Point
Family-owned businesses aren’t immune to shareholders disputes. Consider this fictional scenario: When Jan and Dan inherited their family business after their parents retired in 2000, the transition was seamless. Jan, who was disciplined and organized, handled finance, production and human resources chores. Creative and charismatic Dan focused on product development and sales. Everything ran smoothly until the COVID-19 pandemic caused the company to miss its revenue and profit goals in 2020 and 2021.
Dan believed Jan’s frugality was hampering growth; he wanted to pivot into new markets and acquire operating assets from competitors that had closed during the pandemic. Jan accused Dan of excessive spending on research and development, as well as market research. Their constant bickering caused several key managers to resign. In early 2023, Jan decided to sell her interest in the company to Dan, but the siblings couldn’t agree on buyout terms.
Their attorney recommended hiring a valuation professional to help sort out the details. The first step was a business valuation. The valuator analyzed future cash flows and provided several real-life comparable transactions to support her estimate. Then she provided recommendations regarding the timing and structure of a potential buyout to maximize cash flow, minimize taxes and comply with the shareholder agreement.
Jan and Dan were pleasantly surprised to discover that, in the current economy, the company’s revenue had recovered — and the value of the business had increased significantly. But Jan was still burnt out and wanted to pursue other interests. So, they used the valuation to set a reasonable sales price for Jan’s 50% interest. The valuator also helped them structure an installment sale arrangement that would give Dan time to buy his sister’s share — and allow Jan to spread her taxable gain on the sale over several years.
Irreconcilable Differences
Of course, not all shareholder disputes end on a positive note. Sometimes owners contemplate legal action. A valuator can help determine whether it’s financially feasible to pursue a case. Hiring a valuator as soon as possible in the process improves the efficacy of discovery, increases the likelihood of out-of-court settlement and provides adequate time for the expert to perform a comprehensive analysis.
Valuators often serve as expert witnesses in shareholder litigation. A valuation expert might provide testimony concerning:
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- The value of the business, including the fair value of each shareholder’s interest,
- Economic damages, including temporary lost profits and diminution in business value,
- Formal rebuttal of an opposing expert’s conclusions,
- Reasonable compensation for shareholder-employees, and
- Appropriate discounts for lack of control and marketability, depending on relevant legal precedent.
A valuator also may serve as consultant, helping the attorney critique the opposing expert’s report and prepare questions for deposition and trial. But a valuator shouldn’t serve as both expert witness and consultant on the same case. Keeping these roles separate helps prevent a valuator from being perceived as a “hired gun” by judges, juries and mediators.
Objective Insight
From time to time, business owners may disagree, whether it’s about past events or the company’s future direction. When differences of opinion impair performance, business valuation experts can help the parties defuse emotions and focus on the financial facts.
theKFORDgroup litigation team holds extensive knowledge and experience in expert witness engagements, forensic accounting, and business valuations. Our experts are trained and experienced in the litigation process. We have extensive experience in business valuations. Contact us to assist you and your client when you need a valuation expert that is objective and reliable. For more information, please call us at 210-340-8351.
Additional information included in this report was provided by PDI Global / Thomson Reuters © 2024