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How Do the Courts Approach Denver Business Valuations?
If you are going through a divorce in Colorado, the proper valuation of your businesses is critical. Business are treated like any other asset in a divorce. Even if the business is the separate property of one spouse, any increase in value of the business during the marriage is marital property subject to “equitable” division in the divorce.
In Colorado, a divorce court has wide discretion when it determines the value of the business. The courts have not adopted a single valuation approach or methodology. However, there are three basic approaches to any Denver business valuations.
- Asset Based: the court will consider the underlying value of assets only;
- Income: the business will be valued in terms of the income it would give to a prospective buyer;
- Market: the business is valued based on comparable sales of similar businesses.
A proper appraisal will apply multiple valuation methods and attempt to reconcile them into a single valuation or, at least, a valuation range.
Asset-Based Approach for Denver Business Valuations
Under the asset based approach, the business’s value is merely the value of its assets minus its liabilities. Assets and liabilities are individually appraised and then aggregated under the asset based approach.
The asset-based approach does not include any value for goodwill. It also doesn’t include a discount for minority interests. Not surprisingly, this approach is the most appropriate where the value of any goodwill or income is relatively small in relation to the net value of the assets and liabilities or where the divorcing spouse’s interest is not a minority interest.
Income-Based Approach for Denver Business Valuations
The income approach derives the value of a business based on the income it is expected to produce in the future. This method is most appropriate when future earnings as well as the business’ growth rate are predictable. In Colorado divorces, the most common income-based business valuation method is the Capitalization of Earnings Method.
Under any income-based approach, the business valuation is a function of all future income streams discounted based on a variety of factors including the risk-free rate of return, general market risk, the risk rate of the particular industry and the risk associated with the specific business being valued. The business’ expected growth rate is also taken into account.
The Market-Based Approach:
The Market-Based Approach derives a business valuation based on sales of “comparable” businesses. The so-called “theory of substitution” comes into play in the market-based approach of business valuation. This is the idea is that nobody would pay more for your business than they would pay for a similar enterprise. The market-based approach may be the most appropriate business valuation methodology where there are plenty of comparable business sales.
The Value of Goodwill:
Goodwill is loosely defined in Colorado. It’s an intangible asset such as contributions one party may have made to a business that fall short of being a financial interest. Colorado recognizes enterprise goodwill and professional goodwill.
- Enterprise Goodwill is associated with the business itself. Examples include customer loyalty, products, brand name recognition and IT systems.
- Professional goodwill is also known as personal goodwill. It is the intangible value of the goodwill associated with the specific owner or operator of the business.
Excess Earning Method:
In Colorado divorces, the excess earning method is still sometimes used to create business valuations. The excess earnings method combines elements of asset and income-based approaches to achieve a valuation. Essentially, the business’ value is divided into income earned by tangible assets and income earned by goodwill and other intangible assets. Any income above the “fair return” on tangible assets is “excess.” The excess amount is discounted under the appropriate capitalization rate. The business valuation is then derived by adding tangible and intangible values. Generally, the excess earnings method is best used as check on other business valuation methods.
A buy-sell agreement is entered into between existing owners of the business. It provides for valuation of the shares of the business when less than all of the owners withdraw or sell their shares. Courts sometimes consider the terms of buy-sell agreements when making a business valuation.
Call the Rocky Mountain Family Lawyers now to discuss your legal options and rights concerning business valuations for divorce in Denver or anywhere else in Colorado. (303) 502-9600.