Business valuation in Toronto relies on many financial documents and other key information.
A Chartered Business Valuator’s analysis does not begin and end with the financial statements. The standard documents required to examine a private company’s performance include financial statements, corporate tax returns, and budgets/forecasts. However, there are two overlooked factors in private business valuation: the shareholder structure of a private business and the employment contracts with the company’s management team.
When there are multiple shareholders of a company, the ownership structure will affect decision making and the ability to determine how a private company will operate. Considerations include the size of the shareholding and relationships between owners.
In this post we will examine the effects of shareholder structure and employment contracts on a private business valuation conclusion in Toronto.
A recent article on espn.com provided a fascinating and detailed look into the workings of the management and ownership structure of the National Basketball Association’s Atlanta Hawks franchise during the past five years.
In 2010, there were multiple groups with ownership stakes in the Hawks. The majority shareholder owned slightly more than 50% while another shareholder owned 42% of the team. The partnership was described as an ‘arranged marriage’ scenario. The implication being that there were likely to be conflicting opinions about the Hawks on court and off court performance.
This is important in regards to private business valuation – what is the relationship between shareholders? What type of expectations do the partners have in regards to decision making? Some shareholders may be content with a limited role while others will want to be active in any decision regarding the company. What time of emotional investment does an owner have in the company?
The espn.com described how a team trainer for the Hawks had cared for the minority owner’s father during a health scare in 2005. As a result the minority owner had an emotional investment in the trainer’s employment with the Hawks. Several years later the general manager of the team wanted to hire a new trainer based on the developments and improvements in athlete care. The minority owner’s opinion of the decision was clouded by his personal obligation to the trainer.
A common scenario that requires a business valuation in Toronto is when a company looks to raise capital from third party sources. The founding owners of the company often have a more personal and emotionally invested interest in the company than an outside investor.
Before making a decision to sell shares and raise capital a founding owner should consider how the company will operate in the future with new partners on board.
Employment contracts can significantly affect a business valuation conclusion. A company’s cost structure can vary based on employee salaries, training programs, and benefit packages.
There are also qualitative factors to employment contracts.
In the summer of 2012, the Hawks were in search of a general manager to run the team and most importantly make personnel decisions regarding the players on the roster and the coaching staff. When the Hawks settled on Danny Ferry, he was provided with unprecedented clause in a general manager’s contract – he only had to report to the majority owner. Any decision that the GM wanted to make would only require the approval of the majority owner despite there being multiple owners that wanted an active role in the team.
Why is this important in business valuation? Consider a third party interested in acquiring shares in a private company. There is a certain expectation that comes with owning a 42% share in a private company. One would want their opinion to be acknowledged in ownership meetings and in conversations with key decision makers. Without knowing the finer details of employee contracts, a prospective owner would be unaware that key decisions can be made without their approval.
In this scenario, a discount related to control should be applied to the shares of the minority shareholder. For example, if the business valuation conclusion resulted in a fair market value of $1,000,000, a 42% share would be valued at $420,000. However, with the knowledge that the majority shareholder has complete control over decision making in the company, the 42% share should be valued less than $420,000.
Minority discounts in business valuation can range from 20% to 80% depending on the size of the share and the restrictions on how active a role the minority owner will have in the private company. If you are considering an acquisition, ensure that you have obtained all the relevant information about how the company operates.