How to Review a Business Valuation Report


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As the trust and estate attorney, you are the first line of defense if a valuation is questioned. These questions can come from a friend such as the client or a foe such as the IRS. Feeling comfortable with the valuation report is essential.

In reviewing the report, ask, “Would I pay this?” A strong report valuation should lead to a solid “Yes!”

Reviewing a business valuation report can be a challenge. It may not be an area of expertise or something frequently encountered. In this review process, the attorney plays a pivotal role in ensuring the accuracy and defensibility of the valuation. This guide will explore the nuances of this review, offering an examination of critical elements.

Purpose of Valuation

Why is this valuation being conducted? The report relied on should specifically state its purpose is for trust and estate administration or for trust and estate planning. Valuations for other reasons, including a potential sale, financial reporting, buy sell agreements, compensation, or other strategic purposes, are not only unacceptable to the IRS for trust and estate filings, but they may also follow different standards and premises of value. The purpose can significantly influence the choice of valuation methods and the assumptions made during the valuation assessment.

For example, a valuation for a potential sale will focus on the future. Valuations for a potential sale don’t need to be IRS compliant, as they are not prepared to support a tax filing. A buyer certainly wants to understand how a company has performed, but they are acquiring the company for its future performance.

A valuation for financial reporting purposes will look to fair value, not fair market value. This is not an IRS compliant standard for trust reporting or gift reporting.

Standard of Value

There are three standards of value: Fair Market Value, Fair Value, and Investment Value. Only Fair Market Value is acceptable for IRS filings.

Fair Market Value in simple terms is what a willing and informed buyer would pay for the company under the presumption they will run the company similarly to the current owners.

Fair Value has two distinct definitions. Neither apply to a trust and estate filing. For litigation, fair value’s definition changes by jurisdiction. For financial reporting, fair value considers the price that would be received to sell an asset in an orderly transaction among buyers and sellers in the most advantageous market for the asset. If that market is deep and efficient, then the buyer should be able to turn around their investment in a timely manner and for a similar price.

Premise of Value

The two premises of value are going concern and liquidation. Both may be appropriate for trust and estate valuations. The valuation report must only be based on one.

A going concern premise company is worth more to its owners in continued operation than liquidation. A liquidation premise is the opposite. Most valuations are of going concerns.

Level of Value

Level of value reflects whether a share of or the entire business is being sold. Restrictions spelled out in various company governance documents significantly influence how they are applied. The four levels are: control and marketable, control and non-marketable, non-control and marketable (rare), and non-control and non-marketable. The discounts applied to reflect these levels are arguably the most subjective area of a valuation. They can greatly reduce the value of an ownership interest.

  • Marketable v. non-marketable
  • Marketable indicates the ownership interest can be readily sold, such as on an organized exchange. Non-marketable means there is no such ready market.
    • Control v. lack of control – at its most basic, a control owner can directly affect the day to day as well as the strategic operations of a company. An owner that does not have control (a minority owner) cannot. Governance documents can influence the appraiser in selecting the level of discount to apply.

 Letter of Opinion and the Summary of the Valuation

The letter of opinion and the summary of the valuation should clearly report the concluded value, the standard of value, and the premise of value used. The letter also specifies the level of value concluded.

The Overview

The Overview lays out what the company does, its company structure and tax status, its ownership, how it sells and markets its services or products, and how it operates. It looks at the industry and the prospects for that industry. It discusses the economy and how changes in the economy affect the company.

The Overview addresses the company’s facilities, including whether they are owned, leased from a third party, or leased from a related party. How the facilities are aligned with the company may influence the valuation.

The Overview may discuss customer and supplier concentrations and examine the company’s strengths, weaknesses, opportunities, and threats (SWOT analysis). These factors influence the fine-tuning of valuation metrics.

The Overview will outline the financial position of the company – its sales, earnings and returns, its assets and liabilities, and how these all compare to peers. This information is vital to determining a value.

Though not a deep dive, the Overview should leave you with a sufficient understanding of the products and services the company provides, the markets it serves, and how it operates.

Valuation Approaches

Various approaches, such as the income approach, market approach, and asset-based approach, may be employed. All should be considered.

Income Approach.

One common method under the income approach is the present value of expected future cash flows. This may be as simple as capitalizing a typical year or as complex as a multi-year projection.

As in a college Econ 101 course, present value is the amount invested today at the assumed rate of return to receive the company’s projected annual cash flows.

Though the details of this approach may be complicated, ask if the rate of return used feels reasonable. This approach answers the question – what would an investor pay today to buy the expected cash flows of the company, considering the risks of these cash flows. Does it seem too high, too low, or just right?

Future projections must be clearly supported by the historical performance of the company, industry trends, the overall economy, and key changes expected in these factors. Are the projections realistic? A company with sales of $5 million this year should have significant justification for a projection that shows sales of $15 million next year.

Market Approach.

The market approach looks to transactions in similar companies (“comparables”) and recent third-party transactions in the subject company. Smaller companies often serve a narrow market niche with their products or services, their customer base, or other differentiating factors. Serving that niche is how these small businesses successfully compete. Finding similarly sized companies serving like niches can be a challenge.

Large public companies are almost always much too large, offer many more and diverse products and services, and serve a larger market area, making them incomparable to the subject company.

The valuation report should include an examination of the selected companies and explain the similarities and differences to the subject company. Does the selection make sense? Are the transactions relatively current (no more than a few years ago)? Keep in mind Covid-19 led to many forced sales, skewing transactional data.

Asset-Based Approach.

The asset-based approach involves assessing the company’s net asset value. This approach is relevant for businesses with substantial tangible assets, such as real estate or equipment. Evaluate the relevancy of an asset valuation. Consider whether adjustments are made to reflect fair market value of key assets.

Balance sheets for smaller companies typically report assets and liabilities at book value, the price paid for them +/adjustments. These balance sheets are an accounting reporting tool. A valuation should reflect the market value of these assets. If there are material real estate or equipment assets, do appraisals back their market value? If there is substantial inventory, is there either an appraisal backing their market value or a gross up calculation to bring book value to market value?

The asset approach is often used when either no other approach is viable or the other approaches’ results trail this one.

Financial Statements and Adjustments

Understanding adjustments made to normalize the financials is key in determining the true value of the business.

Normalizing Adjustments.

Normalizing adjustments aim to update the financial statements to reflect what a typical owner would report for the business. Common adjustments include market-level compensation to owners and management, market-level rent, and non-recurring income and expenses.

When thinking about adjustments to market-level compensation and rent, it is often assumed the company is overpaying. However, an owner may take little or no salary or benefits, preferring to take distributions or to let profits accumulate in the company. The rent by a related party charged may be the amount sufficient to cover building real estate taxes and operating expenses.

A valuation is performed from the perspective of a third party. A buyer will pay fair market compensation. Adjustments for underpayment or overpayment of compensation may need to be made. When the facility is owned by another entity, the buyer would expect to pay fair rent. This adjustment, too, can either be an adjustment for more or for less rent.

Most valuations will discuss these two common adjustment areas showing they have been considered.

Non-recurring income and expenses can take many forms – unusual professional fees, one-time project fees, Paycheck Protection Plan loan forgiveness, unusual bad debt expense, and more. All should be considered for adjustment. No buyer will pay for income and expense items that are not repeatable.

Assessing Risk Factors

What risk factors affect the company?

Industry Risks.

Industry risks affect all participants. The technology industry moves rapidly. Today’s technology is tomorrow’s exhibit at the Smithsonian. For boomers, DVRs are a great example.

Company-Specific Risks.

Company-specific risks are unique to the subject company. These include customer concentration, management concentration, limited market reach, or a narrow product or service offering. The extent these exist will add risk to a company’s earnings stream. A buyer will adjust their price based on their perception of risk.

Two companies in food distribution report sales of $50 million and profits of $2 million. Company A has three customers, all big box stores. Company B has hundreds of customers. Would you pay the same price for each?

Discounts and Premiums

Discounts may be applied for lack of marketability or lack of control, while premiums may be relevant in certain circumstances.

Understanding any discounts or premiums applied is a critical component of the review process. This is probably the most subjective area of valuation. Combined, these two discounts can reduce value substantially.

Premiums may be added where there are voting or non-voting shares, distribution preferences, waterfalls, and similar preferences.

Lack of Marketability and Lack of Control.

The discount for lack of marketability addresses factors that limit the marketability of the company. Small companies in general take a considerable time to sell. It’s reported it takes a year to sell a smaller business. Why? Ready markets rarely exist. Transactions that do occur are infrequent and are often between related parties.

Not only is time a factor, but there are also costs incurred such as professional fees and broker fees. There is the distraction of the owner and employees from running the business.

Lack of control reflects the inability of an owner of the subject interest to influence daily and strategic operations of the company.

Considerations the appraiser will look to in selecting the level of discounts include: has the company made regular distributions to its owners; are there any owner agreements, buy-sells, or other restrictions impacting transfers or buyout provisions?

These discounts are challenging aspects to evaluate. The appraiser’s judgment plays a crucial role in determining the magnitude of these discounts. Seek clarity on the rationale behind these judgments and ensure they align with industry standards.

Compliance with Standards

Valuation reports should explicitly state their adherence to standards set by professional organizations, the IRS, and/or other regulatory bodies.

Professional Organizations.

Various professional organizations, such as the American Society of Appraisers, the AICPA, or the International Valuation Standards Council, provide guidelines and professional standards for conducting valuations. Verify the valuation report explicitly states its compliance with these standards.

IRS and Regulatory Bodies.

For valuations with tax implications, adherence to IRS guidelines is crucial. The IRS provides overall guidelines for valuations. These are followed in most valuations. (Note the IRS, in Revenue Ruling 59-60, outlines and reviews the general factors to be considered in the valuation of the capital stock of closely held companies and thinly traded public corporations, i.e., a typical small business).

There may be specific regulatory bodies with established standards that the valuation must adhere to. This situation is unusual for valuations for trusts and estates.

Collaboration with Valuation Professionals

Do not hesitate to reach out to the valuation professional who prepared the report for clarification on any points that are unclear or require further explanation.

Involvement of Other Professionals

In many cases, involving professionals with expertise in finance, accounting, or business valuation enhances the thoroughness and accuracy of the assessment. These professionals can bring specialized knowledge to the review process, ensuring that all facets of the valuation are scrutinized with precision.


The attorney is the first line of defense with a valuation. A strong valuation report will provide a clear roadmap to determine the value of a business. By delving into the purpose of the valuation, understanding the valuation methods, the financial trends and adjustments, and company risk factors, the reader of a valuation report will have the knowledge and facts in hand to defend the valuation conclusion.