Party Foul: Errors in Business Valuation Can Be Costly

Abdeljabar v. Khalil, 812 S.E.2d 914(Table) (N.C. App. 2018)

Equitable Distribution (ED) is one of the mechanisms by which former spouses separate their personal and real property. What if the during the marriage one party opens a small business? Businesses are subject to ED, and valuation of a business can be very complex. But in the case below, we discuss why you should consult an expert in Equitable Distribution.

Facts: In 2013, Plaintiff wife filed a complaint that included ED, among other claims, against Defendant husband. At the 2016 ED hearing, the Court found that Defendant owned and operated a small business, Party World. Before the date of separation, Defendant’s business prospects worsened. At the hearing, he testified that Party World was without any value at all, while Plaintiff presented evidence that total assets were closer to $250,000. In the Court’s judgment, Defendant was awarded Party World, valued at $100,000. This meant that in the equal distribution, Defendant had to give up something worth roughly $100,000 to Plaintiff (for something Defendant thought was valueless). The Court based that value on the income stream (typically a measure of future expectation of economic benefit). Defendant assigned error in that value and appealed.

Issue: Was the trial court in error in valuing Party World at $100,000?

Holding:

Rationale: First, the standard of review is to see whether the trial court abused its discretion, meaning that it made the finding without reason in light of the evidence. For a business, the Court will not elevate one method of appraisal over others, and will hear evidence of all appraisals and the underlying method. Specifically, the Court will weigh particular facts, such as assets like furniture, equipment, and inventory; accounts receivable and work in progress; goodwill; and liabilities such as debts.

The various methods of appraisal that the Court considers include: the market price of the business if an outside buyer was paying; valuation in comparison with other closely related businesses; any previous or current offers to buy or sell the business in whole or part; anything in business formation documents, such as a partnership agreement or redemption clause; and any other useful valuation such as income stream.

The underlying goal, however, is for the Court to make specific findings as to the value with the evidence upon which that valuation is based. The trial court failed to do this part. Income stream approaches require a bit of math to calculate valuation based on economic factors. Instead, the trial court simply based it on the fact that Party World “provided a good living,” and added to the parties’ ability to acquire “gold, cash, real estate and fine furniture.” There was no math, no discussion of how the court arrived at that number.

Lessons and Observations:

Business valuation is complex, and there are multiply ways to arrive at a value. A great ED attorney will use multiple valuations, and also argue why certain valuation methodologies take precedence over others. The lack of a proper valuation here initially cost the Defendant $100,000, but it was remanded for more rigorous analysis. If it was right the first time, Defendant would not have had to undergo a costly appeal.
Show your work. A trial court cannot conclusively arrive at a value without finding the facts that support its conclusion. There should have been evidence of the methods used, and how each party arrived at their valuation.