Marriage isn’t just a legal relationship: it’s a social, emotional, and financial one. Accordingly, divorce naturally involves those elements as well. Equitable distribution of property deals with the allocation of marital assets in divorce. In Maryland, spouses are to divide marital property in a way that is fair and equitable, and usually roughly equal.
Of course, in order to divide assets fairly, you must know what the property is worth. That’s more straightforward with assets such as financial accounts and real estate, but considerably more difficult with assets like business interests. Many factors go into a business’s value, not all of them tangible. And often a business is one of the most significant assets to be divided during a divorce, so understanding how to value a business in divorce is critically important.
A business is more than a valuable asset; it’s also a source of income that supports the family. What happens to a business in divorce depends in part on the spouses’ involvement and ownership shares in the business. If both spouses worked in the business, they will need to decide if one or both of them will continue to do so.
More often, only one spouse is involved in the business. Frequently, the other spouse assumes primary responsibility for home and family needs to enable the business owner to put in the time and effort necessary to make the company successful. Both spouses may anticipate that they will benefit from their respective sacrifices as the business prospers. When divorce occurs, the couple must instead decide what the business is worth, and how to divide it.
What often happens is that the spouse who is regularly involved in the business wants to keep the business itself, and the other spouse wants to take an equivalent value of other marital assets. However, determining what the value of the business actually is can be daunting. Business valuations can vary wildly, and the services of a business valuation expert are usually required.
The first thing that needs to happen when a Maryland business owner is getting divorced is to determine whether the business is actually marital property subject to equitable division. For instance, if the business owner spouse created and built the business before the marriage, it could be considered separate, non-marital property. In that case, the business would not be divisible in the divorce.
However, it is common for a business interest to be partly marital, even if the business owner started the business before the marriage, because marital resources acquired after the marriage may have been invested in the business. The business may have increased in value due to those investments or efforts by the business owner.
Assuming that at least part of the business is marital, the next step is to decide what the business is worth. In Maryland, an often accepted method for valuing a business in divorce is the “fair market value” method. Fair market value is the price at which the business would change hands from a willing seller to a willing buyer. This brings us to the question of what are the components of a business’s value.
Certain components are easier to value than others. Tangible assets like equipment and inventory can have a discernible value and there should be documentation of accounts receivable and payable. Other considerations may include any patents or other intellectual property the business owns, and any capital expenditures that have recently been made or will soon be needed.
More difficult to address is the question of goodwill in a business. Goodwill is an intangible asset, a premium paid above and beyond the “book” value of the business. Goodwill may have a significant impact on the fair market value of a business. For instance, two stores might be located on the same city block and have similar inventory and equipment. But if the first store has been a fixture in the community for years with a good reputation among locals, its fair market value is likely higher, because of the concept of goodwill.
In valuing a business, Maryland courts distinguish between enterprise goodwill and personal goodwill, with only professional or enterprise goodwill being considered a marital asset. Enterprise goodwill is a business asset that does not depend on the presence of a particular individual in the business. For instance, it does not matter much to customers of a chain pizzeria franchise who the franchise owner is, and in fact, they are probably not even aware of the owner’s identity. More likely than not, the business could change hands with no change in value or profitability.
Personal goodwill, on the other hand, is closely associated with an individual. If the value of a business declines with the departure of an owner, the goodwill associated with the business is personal. An example would be a restaurant owned by a renowned chef, whose reputation is bound up with that of the restaurant. If she were to retire and sell the restaurant to someone fresh out of culinary school, and set up a newer restaurant right down the street from the old one, the fair market value of the first restaurant may decline.
Business valuation is complex, and spouses may offer estimates for the value of a business in divorce that diverge by hundreds of thousands, even millions, of dollars. Often these cases become “battles of the experts;” the spouse who engages an experienced business valuation expert who can clearly, logically and credibly articulate their position is more likely to prevail.
Accordingly, if you or your spouse own a business, it is important to work with a divorce attorney who is experienced in high net worth divorce cases involving a family business. Strickler, Platnick & Hatfield have extensive experience with these cases and working relationships with the most knowledgeable and respected experts. We have an impressive record of success both negotiating and litigating for our clients in these matters.
To learn more about the process of valuing a business in divorce, please contact Strickler, Platnick & Hatfield to schedule a consultation.