How can valuation discounts impact the value of a business?
As the term implies, valuation discounts have a negative impact on the value of an ownership interest in a privately held company. There are several types of discounts that we apply in closely held business valuations. First, a discount for lack of control needs to be considered when valuing an ownership interest in a business that is deemed to be a minority interest (less than 50 percent ownership). This discount captures the fact that a controlling position in a company is more desirable than a minority position.
For example, if Dad owns 100 percent of the business and gives 10 percent to his son, that 10 percent interest is not equal to one-tenth of the value of the business. It’s one-tenth of the business times some discount because of the fact that the son does not have any decision-making control — he can’t sell the business or liquidate its assets and he doesn’t have the final say in business decisions.
Another discount is the discount for lack of marketability (DLOM), which captures the negative impact on the value that results from a closely held business owner’s inability to quickly liquidate his or her ownership interest. Since privately held companies do not trade on any open market, there is added risk associated with selling such an ownership interest in a timely fashion and at an appropriate price.
Who typically performs business valuations?
A credentialed professional is either required or strongly preferred. The primary credentialing organizations are the National Association of Certified Valuation Analysts (offering the CVA credential) and the American Institute of CPAs, which has the Accredited in Business Valuation (ABV) credential. The American Society of Appraisers (ASA) and Chartered Financial Analyst (CFA) credentials are also common. In many cases, valuation specialists are also CPAs, but there are certainly valuation practitioners who are not.
Why are credentials important?
Those credentials are especially valuable in litigious or potentially litigious situations like divorce, shareholder disputes, or estate and gift tax filings. In any estate or gift tax scenario, you could be dragged into tax court to defend your value. Having someone with credentials gives you the comfort of knowing that if your return gets challenged by the IRS, you’re at least going to have a strong defense. While there is a lot of subjectivity in what we do, working with a credentialed professional offers you comfort if you get into those types of contentious situations.
Daniel D. Golish, CPA/ABV, CVA, CFF, is a senior manager with Skoda Minotti. Reach him at [email protected] or (440) 449-6800.
