903 533 8585 - 800 436 1213
Why determine the current value of a business? Because if a major shareholder or partner dies, and you have not determined a value, the Internal Revenue Service, will do it for you. The IRS will select the method(s) of valuation as provided for in its regulations to create the highest value possible for tax purposes. This situation is rarely advantageous for the taxpayer.
Two major valuation considerations are market value and intrinsic value factors. Intrinsic value factors are broken down into the following two categories: earnings capacity and other considerations.
This is the preferred method. The greater the market activity in a company’s stock, the more weight can be placed on this method. This method is not applicable, however, to partnerships or corporations where there has been no trading activity. Even with traded companies, there can be serious limitations with this method, including:
If the stock is traded over-the-counter or through an exchange, these prices will prevail. The only exception is if the amount of stock, added to the purchaser’s other holdings, will constitute a controlling interest. That would increase the value of the shares. If both bid and ask prices are available, the mean price is used.
If the fair market value cannot be determined by reference to market transactions or to values set by arm’s length agreements, (buy-sell agreements, etc.) then intrinsic factors must be taken into account. The main categories under intrinsic value factors are earnings capacity, current financial statements and other considerations.
EARNINGS-CAPACITY INTRINSIC VALUE
Stock market analysts use price earnings ratios as one of their major indicators. A buyer is particularly concerned with the future earning power of the company. The past earning power is considered to estimate future earning power under these rules:
Once the average earning power is computed, the proper multiplier to capitalize that power must be determined and applied. The multiplier is directly proportional to the risk factor. The greater the risk, the smaller the multiplier. The best guide in determining a multiplier is to note comparable multipliers of publicly traded companies. If this is not possible, you might use comparable non-publicly traded companies.
After comparable companies have been located, the average price-earnings multiplier of their shares can be applied to the earnings of the stock to produce a valuation.
OTHER CONSIDERATIONS - INTRINSIC VALUE
In order to place the burden of proof concerning the actual value of a business in the hands of the owner, the IRS has intentionally left the regulations vague. According to the IRS, the following relevant factors will affect arrival at a fair market value:
There is no fail safe way to value a company for buying and selling purposes. The true value is the perceived value to a ready, willing and able buyer. However, there are a number of good approaches to estimate value; some of those discussed above. It is not unusual for a buyer – or the IRS – to ask for the logic behind a market valuation. Having a credible answer to that question will enhance your chances that the value will be accepted.
Business Valuation Information:
Check the background of your financial professional on FINRA's BrokerCheck
The content is developed from sources believed to be providing accurate information. The information in this material is not intended as tax or legal advice. Please consult legal or tax professionals for specific information regarding your individual situation. Some of this material was developed and produced by Advisor Launchpad to provide information on a topic that may be of interest. Advisor Launchpad is not affiliated with the named representative, broker-dealer, state- or SEC-registered investment advisory firm. The opinions expressed and material provided are for general information, and should not be considered a solicitation for the purchase or sale of any security.
Copyright 2017 Feliciano Financial Group
Securities and investment advisory services offered through Lion Street Financial, LLC., member FINRA/SIPC. Fixed and traditional insurance offered through Feliciano Financial Group (FFG). Medicaid planning and consulting offered through Geriatric Care Solutions (GCS). FFG and GCS are not affiliated with Lion Street Financial, LLC.
This site is published for residents of the United States only. Registered Representatives and Investment Adviser Representatives of Lion Street Financial, LLC and Lion Street Advisors, LLC respectively, may only conduct business with residents of the states and jurisdictions in which they are properly registered. Therefore, a response to a request for information may be delayed.
DOL ERISA: Effective June 9, 2017, all individuals who provide advice to retirement plans, including Individual Retirement Accounts (IRAs), must abide by the fiduciary standard. What does the fiduciary standard mean? This means that your advisor must put your interests first before their own or that of the firm, make prudent recommendations, charge reasonable compensation and make no misrepresentations to you regarding recommended investments. The recommendations made by your advisor must be based upon your specific investment needs and objectives. The fiduciary standard is applicable to any recommendations that your advisor makes to you, the client, for your retirement account. Please note the firm does have policies and procedures in place to monitor this level of fiduciary responsibility for our clients.
Contact Feliciano Financial Group
1828 East Southeast Loop 323, Suite 200, Tyler, TX 75701-8340
Mon-Fri: 8:00 AM - 5:00 PM
Sat-Sun: By Appointment