Estimating Appraisal Costs

By avm

Business Valuation, Its Complexity and Importance

When it comes to estimating appraisal costbusiness valuations for privately held businesses and professional practices generally require special expertise, familiarity with relevant court decisions, and appropriate appraiser qualifications.  Accounting conventions are not designed to determine the value of a company; instead they are used to state income and expenditures for management and tax reporting. A proper business valuation is an investigative exercise to ultimately determine both the tangible and intangible value of a business for existing business owners, potential buyers, investors, lenders, and other interested parties.  Normally, estimates of value from the owner or the company’s CPA do not have credibility with outside parties, and it’s possible for the CPA to have a conflict of interest. The quality of a valuation becomes increasingly important as the values rise and the risk of error, or regulatory non-compliance become significant.  Valuations typically occur for the following reasons: Tax Reporting.  Most valuations are done to facilitate tax reporting, are highly structured, and comply with IRS mandated standards –and the IRS standard of value –“Fair Market Value.” Investment Analysis.  Some valuations are used for investment analysis purposes, or internal transactions, and are done to meet the “Fair Value” standard promulgated by the Accounting Standards Board.  Buy and Sell transactions fall into this category. Employee Stock Options.  Early Stage companies often need valuations to set strike prices for employee stock options in compliance with IRC 409a.  Failure to do this may have very expensive consequences.

Valuation Types and Costs

Rules of Thumb

$0  A business broker or seller may develop an asking price by using ‘rules of thumb’. Though these rules of thumb can be useful, they alone cannot accurately determine a business’s value because they do not address the strengths and weaknesses of the company, and usually over- or under-state the value.  They also do not address market conditions, and specific markets for sale – which may present widely divergent multiples. We have seen cases where sellers have left millions of dollars at the negotiating table to save a few thousand dollars on appraisal cost.  What’s the risk?  In most cases the real risk of omitting a valuation analysis is that the intangible asset values are not determined correctly, if at all.   In modern well-run businesses, we expect intangible assets to be 15% to 95% of the business value.

On-Line Valuations

Under $500  If there were a reliable software or on-line valuation system available, we would use it.   We have yet to find one.   In our opinion, generic software packages and automatic or do-it-yourself business valuations found on the Internet are pretty useless– and can significantly mislead the user as to value.  They are not at all acceptable for tax-related or litigation-related needs.  Qualified independent analysis is required.  And for valuation of startups where an analysis of the strategic plan is required, they are worse than useless. So-called on-line business appraisal companies typically ask you to log in to a private website with a password, fill out a 30 minute questionnaire then wait a few days for a response.  There’s no connection between the appraiser and the client, and no knowledge of the qualifications of the so-called appraiser.  An acceptable appraisal approach is not used.  When the process is complete, you’ll be given a number that purports to be your business worth.   But that opinion itself is worthless – it cannot be used elsewhere!

Professional Valuation

Estimating Appraisal Costs - James Lisi - Business Valuator

Estimating Appraisal Costs – James Lisi – Business Valuator

Professional Appraisers generally quote fees based upon a clear understanding of the scope of work desired, the purpose for the appraisal, the specific reporting needs required, and the size and complexity of the business.  It also is based upon whether certain assets must themselves be appraised independently.  These typically are Intellectual Property, Machinery and Equipment, and Real Property owned by the business. $3500 to $10,000  For most small business appraisals,  the range is from $3500 to $10,000.  If the valuation firm is selected to be a key member of the financial and legal advisory team, subsequent appraisals and updates are usually significantly discounted. These valuations typically take 1 to 3 weeks to complete after data submission. At this level, finding the worth of a more complex business structure is possible.  Shareholder agreements will be studied and discounts for minority positions can be considered.  Clients can expect communication between the subject company and appraiser and you can get a USPAP compliant appraisal report.  Your appraiser will be available for review and interpretation of the figures.  A common discussion is how to increase future value of the business based on the valuation findings.  Another is the timing and types of exit plans that are appropriate. To keep costs in this range, book value is typically used as a substitute for appraising the assets listed on the balance sheet. $10,000 to $25,000  When Intellectual Property, Machinery and Equipment, and Real Property are owned by the business, and appear to be significant portions of the enterprise value, the cost for additional valuation of these assets is added to the baseline valuation. The cost to appraise them is dependent on their specific nature. For Investment Analysis, in startup and emerging situations, the valuation will be determined mainly by an assessment of risk, which is mostly dependent on the credibility of the business plan and the extent of its implementation.   Due diligence includes evaluating the assumptions for the financial projections, potential customer base, depth of management, business controls and more.  Investors will require a feasibility study based on an initial investment and an exit valuation. Up to $50,000 and More   Appraisals in this price range fall into three categories: large complex entities, SEC compliance and situations involving litigation or potential litigation. Larger businesses may have multiple numbers of distinct operations, markets served, intangible assets and equity classes that require separate analysis and aggregation.  For these types of companies, resolutions among debt and equity holders are studied and the valuation of stock options and ESOP plans are also possible extensions of the scope of work. The chief reason that appraisal engagements for litigation cost more is because the analysis and reporting must be performed to a standard of thoroughness that will allow them to survive rigorous cross-examination by opposing counsel.  Financial Forensic review is important, as is having a credible expert witness to support the valuation in court.

Business Valuation Expert – video

Why Not use my CPA Firm for Valuation?

A few reasons jump to the fore: cost, quality and defensibility.  Although CPA’s are fantastic number crunchers, the majority are not focused, experienced or fully-capable of conducting a high-quality, cost effective business valuation in which an intimate knowledge of the markets is needed.  Most have limited knowledge in conducting market research, assessing market comparables, and understanding the business dynamics at play in buy-sell transactions.  And because it is a small part of their business, they may have to invest more hours in the valuation process than a valuation-focused firm, while the costs of obtaining market data typically preclude them from getting all the data that they really need. Another important consideration is that value exists in having a third party produce the business valuation from a liability standpoint with the IRS and for use in potential litigation.  Third party valuation appropriately sets the CPA in their advisor role of evaluating the valuation results for management use and tax reporting, and keeps them at arm’s length from a potential conflict of interest with their financial recommendations.

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