Valuing a business in a litigation context is akin to navigating a complex maze. This intricacy is amplified when dealing with multi-entity structures, multi-location businesses, multiple valuation dates, and opposing expert reports. In such cases, crafting a well-thought-out strategy is essential to ensure a fair and equitable assessment of the business’s value. This article is the first of a 2-part series that provides strategies on how to proceed in these challenging litigation scenarios. Today, we cover how to handle the complexities involved in valuing a business with multi-entity structures and multiple locations.
Many businesses operate as multiple legal entities, each with its own assets, liabilities, and income streams. When faced with a multi-entity structure, it is crucial to consider the interrelationships and dependencies between these entities. Multi-entity structures can be intricate webs of ownership, where entities may share resources, personnel, or intellectual property. Here is how to proceed:
Begin by gathering the financial data from all entities involved and reviewing the business’s overall financial health. One item that may add complexity is intercompany transactions as these transactions can distort the financial picture of individual entities. The financial expert needs to ensure they understand any related-party transactions or intercompany debt as well as consider the need for an adjustment to normalize the financial statements. Related party transactions can involve eliminations or restatement to fair market value, distorting the financial picture of individual entities. In some cases, a company may book a sale to a related entity at cost value, rather than reflecting the true fair market value of the transaction. An appraiser also must consider shared costs between the different legal entities, and the potential for valuation adjustments. This can involve compensation for personnel who perform a multitude of duties.
The most straightforward way to identify controlling interests is through ownership percentages. Typically, entities or individuals with more than 50% ownership are considered to have controlling interests, as they can make significant decisions without the need for consensus. However, ownership does not always correlate directly with control. In some cases, certain classes of shares may carry more voting rights, allowing entities or individuals with a minority ownership stake to exert control. Therefore, it is necessary to consider voting rights provisions. Controlling interests are typically valued based on the pro rata share of the entire business’s value, while minority interests often require adjustments and discounts for lack of control and lack of marketability.
It is imperative to review the various corporate governance documents – Articles of Incorporation, Operating Agreements, Stock Purchase Agreements, and any Buy-Sell Agreements – of all entities involved. This is done to gain greater understanding of the different classes in capital structure, as well as understand the bundle of rights for each class: voting, control, non-voting, any preference rights, etc.
Multi-location businesses may operate in different geographical regions, each with its unique economic conditions, customer demographics, and competitive landscapes. Valuing such a business requires a comprehensive understanding of these potential regional variations. Some strategies include:
If possible, divide the business into segments based on the distinct locations. Analyzing the various balance sheets and income statements individually by location allows the financial expert to gain a better understanding of the business as a whole. For example, one location may be much larger than another, or is growing slower than the other. One may specialize in one particular product, while the other location may specialize in a related service. Understanding the core operations of each separate location is vital to understanding the overall health of the business.
Conduct in-depth market analyses for each location. This involves studying local economic indicators, industry-specific trends, and consumer behavior in each region. These insights help in assessing the potential growth and profitability of each location. Economic conditions can vary significantly from one region to another. Some regions may experience robust economic growth, while others may face stagnation or decline. These disparities can impact a business’s revenue, expenses, and overall financial performance. Analyze the competitive environment in each region and evaluate if competition has increased due to new market entrants. Understand the market share, customer demographics, competitive advantages, and challenges faced by the business in various locations.
Overall, valuing a multi-location business requires a nuanced approach that considers the unique characteristics of each location while also understanding how they contribute to the overall business’s value. Engaging a valuation expert with experience in multi-location businesses is crucial to ensuring an accurate and defensible valuation in litigation.
Navigating business valuation in litigation involving multi-entity structures and multi-location businesses demands a strategic approach. Ultimately, a well-supported valuation can play a pivotal role in the resolution of complex business disputes.
In Part 2 we delve into the complexities involved in litigation when dealing with multiple valuation dates and opposing expert reports.
