WHAT YOU SHOULD LOOK FOR IN A VALUATION REPORT
by Gerald S. Blackman,CA, ALA, CBA, CFE
(Reprinted from Money & Family Law, November 1992)
Currently the matrimonial property legislation in the various provinces, because of what is to be included in a spouse's assets subject to division, necessitates a valuation of some sort. Whether it is shares in a private or publicly-held company or real estate, the value determined must be objective and without bias.
The conclusions arrived at by the valuator, with respect to his opinion of value, that are presented to the lawyer and client, and in many cases, filed with the Court, are embodied in the valuation report. It should be noted that while valuation is not an exact science, it is an art that blends quantitative analysis with quantitative assessment. It is an evolving discipline, the principles and practices of which are becoming more sophisticated, as a result of current business and commercial trends as well as judicial decisions. As a consequence, the report should be well founded, fully documented and prepared in an easily readable manner so that it can be understood by a lay person, as well as undergo the careful scrutiny of the Court.
Although a valuation report can take many forms, it is incumbent upon the lawyer to understand what should be included so as to allow him to review critically the report of his valuator or that of the opposing expert. Accordingly, the basic ingredients that a lawyer should look for in a valuation report are set out hereinbelow.
The introduction should state at the very beginning exactly what the report is all about. It should indicate:
whether an "opinion", "estimate" or "calculations" are requested;
the value term used, i.e., "fair market value", "market value", "fair value", etc.;
the property valued, as well as whether it is the "en bloc" value (i.e., 100%) or a portion thereof;
the relevant valuation date;
the purpose for which the valuation is prepared; and
a clear and concise definition of the value term used and why.
The opinion or conclusion paragraph should state:
the valuator's final conclusion as to value;
the basis upon which value is arrived at;
the restrictions the valuator is placing on the use of the report, as well as any limitations in the scope of review;
that he has the right to revise his conclusions, if new facts are discovered after the issuance of the report;
any disclaimers with respect to reliance on other parties, such as other valuators, real estate appraisers, etc.; and
the extent to which special purchasers were considered in arriving at the valuator's conclusions as to value.
SCOPE OF REVIEW
In arriving at his conclusions, the valuator reviewed and relied upon a number of documents and information, which should include, among others:
financial information such as financial statements, income tax returns, analysis schedules, etc.;
corporate documents, such as minutes and resolutions of directors' and shareholders' meetings, incorporating documents, shareholder agreements, management/employment contracts, etc.;
interviews with management, auditors/accountants, etc.;
tour(s) of the company's office(s) and plant(s); and
a letter from the company's management, confirming certain representation and warranties made to the valuator, which he may be relying upon in the preparation of the report.
This section of the report should encompass:
Nature and history of company, including brief description of operations, products, raw material, management, employees, major competitors and customers, etc.;
A brief description of the industry in which it operates; and
The economic conditions on or about the valuation date that may impact the business.
In valuing a business, there is no single, standard or specific mathematical formula. The particular approach, and the factors to consider, will vary in each case. Historically, there are two generally-accepted approaches to valuing a business, the liquidation-based approach or the going-concern-based approach. If the business is suitable only for liquidation, then this would be carried out either on the bases of an orderly or forced liquidation. The following should be considered:
The asset-based approach, either on a going-concern or liquidation basis;
The earnings-based approach or a variation thereof such as cash flow or discounted cash flow;
Other approaches, such as rule-of-thumb, stock market price, etc.;
The methodology adopted by the valuator and why; and
The reasons why the other approaches are not applicable.
VALUATION OF COMPANY
This section should contain all of the details as to how the valuator's conclusions as to value are arrived at:
If an earnings/cash flow-based approach is used, then it should detail how each of the following are determined:
Maintainable or indicated annual after-tax earnings/cash flow;
Capitalization rate; and
Additions to or deductions from the capitalized earnings/cash flow.
If, on the other hand, an asset-based approach is used, then it should set out the explanations as to the manner in which the following are arrived at:
Adjustments made to shareholders' equity;
Calculation of contingent taxes at both the corporate and personal level; and
Any other additions or deductions.
Whether there are any "above the line discounts" to be applied in arriving at going-concern value such as a:
key-man discount; and
income tax discount.
The factors considered in arriving at the valuator's conclusions.
This section should summarize the valuator's conclusions, as to:
how the going-concern value of the company is arrived at;
whether there are additions to or deductions to be made from going-concern value, i.e., redundant assets, tax shield, capital contributions, etc.; and
whether there are any "below the line discounts" to be applied in arriving at share value such as:
minority (lack-of-control) discount;
illiquidity (lack-of-marketability) discount; and
This, the final section of the report, should state the major assumptions that the valuator has relied upon in arriving at his valuation conclusions.
This part of the report should contain all of the supporting detailed calculations, as well as comparative balance sheets, income statements and analysis schedules.
The Canadian Institute of Chartered Business Valuators has recently issued Standard #91-1, Valuation Report Standards and Recommendations, which sets out the minimum information that a Valuation Report should contain. A copy of this standard can be obtained by calling the Institute at (416) 204-3396.
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