Business Assets On Divorce

Why is the value of a business relevant on divorce?

Where a business has been established or developed during the marriage, the value built up during the marriage is usually subject to the sharing principle, with a starting point of equal division. Because liquidity is an important consideration on divorce and because dividing or selling a business is rarely practical or desirable, the value attributed to it can have a significant impact on how other assets are divided.

When is a formal valuation needed? 

A valuation may not be necessary if both spouses agree on the business's value, if it is being sold on the open market, or if it is simply the vehicle through which one spouse earns an income and so has no capital value. Otherwise, a formal valuation is usually required. 

What is the approach to business valuation in divorce proceedings?

A specialist accountant with experience in the relevant sector will (usually) be jointly chosen and instructed by the spouses’ solicitors to provide a “present market value” of the business, namely the price it could reasonably be expected to achieve if sold on the open market. How this is calculated will depend on the nature of the business. 

• An earnings-based valuation assesses the value of the business by reference to its expected future profits. The valuer identifies the business’s maintainable earnings, usually based on EBITDA (earnings before interest, taxes, depreciation and amortisation). An appropriate multiple is then selected by reference to comparable businesses with known market values and applied to the maintainable earnings.
• A net assets valuation approach values the business by subtracting its liabilities from its assets. It is generally used for investment and other asset-rich businesses. It can also provide a minimum appropriate valuation for trading businesses.
• A discounted cash flow approach seeks to forecast the business’s future income and then discounts it to reflect risk. It is not often used in a divorce context because most private businesses do not have sufficiently reliable long-term financial forecasts.

Sale costs and tax will always be deducted to arrive at a net value.

The expert should explain choice of method and any assumptions, adjustments and multiples used. Business valuation is often described as “an art not a science”, and different valuers can reasonably reach different valuations. The court is therefore not bound by an expert’s conclusion, although it will always be given significant weight. 

In some cases, a historic valuation may also be required, typically at the date of marriage or the start of cohabitation. This can help determine what proportion of a business is subject to the sharing principle, where it existed before the relationship or was inherited or gifted during the marriage. As historic valuations can be highly subjective and costly, they should be undertaken with caution.

What factors may be relevant where the business is co-owned with third parties? 

If the spouse or couple own only part of a business, the value of their interest may not simply be that proportion of the value of the business as a whole. For example, a minority interest may be worth less because it offers limited control and can be difficult to sell. Restrictions in shareholders' agreements, partnership agreements or other governing documents may also affect value. The accountant carrying out the valuation can advise on this. 

What will happen to the business on divorce? 

It is usually impractical for former spouses to continue running a business together. The court generally has three options:

• One spouse keeps the business, and it forms part of their share of the assets, with other family assets used to balance the overall settlement. Funds may need to be extracted from the business and transferred to the other spouse to achieve this. As business assets are often illiquid and carry significant risk, the value of the business may not be considered equivalent to the same value in cash. A discount may therefore be applied to the value of the business interest to reflect this, with the overall settlement adjusted accordingly.
• One spouse continues to run the business, but the other also retains an interest in it and receives a share of the proceeds if its value is realised in the future, for example on a sale. This is known as “Wells sharing” and may be appropriate where the business is especially difficult to value, or there are no resources to fund a balancing payment.
• The business is sold. This is usually the last resort as the business may be the family’s main source of wealth, and because a forced sale could impact the sale price. However, in some circumstances it may be the only realistic way of achieving a fair settlement. It can also be used as a fallback option, whereby a sale is triggered if a required payment is not made within a specified period. 

Divorces involving business assets can be complex. Early specialist advice can help identify the key issues, ensure that any valuation evidence is focused and cost-efficient, and maximise the prospects of achieving a fair settlement without disrupting the business.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.