Preparing for and conducting a business valuation.

• Author: Mellen, Chris M.
• Position: Private companies

Most closely held businesses are not appraised every year. As a result, owners and managers are not particularly familiar with the business valuation process. An appraiser must, therefore, start with a detailed discussion of the process itself. This can avoid surprises about such things as the information that has to be gathered, risk factors that may impact value, lack of control and marketability discounts that may be taken and the unlikelihood that one appraisal can serve two purposes.

There are generally four phases in the business valuation process: the introductory phase, the engagement phase, valuation procedures and the report phase. Importantly, prior to conducting the valuation, there are certain financial reports that companies should have in place in order to ensure a smooth valuation process. Most important is to make certain your company has financial statements prepared in accordance with generally accepted accounting principles, or GAAP.

Audited financials are preferred, although smaller businesses may alternatively have reviewed or compiled statements. In addition, during the valuation process, it will be helpful to have available such information as organizational charts, budgets and forecasts, top customer sales information, tax returns, cash flow forecasts and current sales backlog reports.

Review of the Client's Needs

The introductory phase is a review of the client's appraisal needs, such as: What exactly will be appraised, and what is the effective date? Why is the appraisal needed? Will the subject interest be a controlling or non-controlling interest? Is the client familiar with the concept of control premiums or discounts for lack of control or lack of marketability? How many classes of stock are there? When is the report required?

The purpose of the valuation drives the definition of value and the type of report needed. And of course, the conclusions are different with each definition of value (e.g., investment vs. fair market vs. liquidation value). If the client has any additional objectives for the report, this is the time to discuss them.

During the engagement phase, the business appraiser prepares the engagement contract, which documents major points of the valuation assignment, including the effective valuation date, subject interest to be valued, time requirements, fees and retainers. The client executes the engagement contract by signing it and usually enclosing a retainer, thus allowing work to begin.

The...