Two decades ago, the owners of Cedar Bay Construction decided it was time to move on and chose to reward the their employees by handing them the company through an Employee Stock Ownership Plan.
But that wasn’t the end of it, as the rules and regulations of an ESOP require a yearly valuation.
“There are changes in the ESOP every year,” says Ron Cook, president of Cedar Bay Construction Inc. in Huron. “Someone is selling stock to the ESOP or there is an ESOP participant who is leaving and gets cashed out, in which case you have to use the ESOP appraisal to evaluate his particular shares of stock to convert that stock to cash and pay him out.”
But ESOPs are only one of many reasons companies seek valuations.
“You determine the value of a business for a variety of reasons,” says Don Zwilling, director of the Valuation Department at Barnes Wendling CPAs Inc. “How are you going to transfer this business to the next generation, or to other owners if something happens to you, if you retire, die or whatever? From that stems doing valuations for ownership and shareholder agreements.”
Other reasons for valuations include estate and gift tax planning, buying or selling a business, litigation among shareholders or as a result of marital disputes.
“We have a yearly shareholders’ meeting,” Cook says. “We have to have our valuation at the meeting. The ESOP owns company stock. Company stock fluctuates yearly on the type of year we have. After we get our audit and financial statements done, then the stock actually increases or decreases depending on the specifics of that year, and the valuation will change, too.”
There are three different approaches to valuing a business — the asset approach, the income approach and the market approach, each of which have different valuation methods.
“The first thing you’ve got to do is determine the purpose of the valuation,” Zwilling says. “The company must also consider how much of the company is being valued. Are we valuing 100 percent of this company, a controlling interest, or are we valuing a minority owner’s interest?”
Mike Bass, founder of Mike Bass Ford, needed a valuation because he wanted his son to succeed him in business.
“For tax purposes (we needed) a fair estimate of the dealership’s worth,” Bass says. “We needed the valuation for our son to purchase the dealership, which he did over a period of years.”
Owners may need to consider other siblings not involved in the business, and they need credible reports when companies change hands because the government wants to make sure it gets its share.
“The other leg to that stool is the price is fair from the IRS standpoint,” Bass says. “If you make it too little, then a portion of it would be considered a gift. Other family members who are not in the business, you want to treat them equally.”
Why the company is being valued, and what portion of it, will help determine the method of valuation. But there is a bit of an art to the process.
“You’ll get different answers in every one of these things,” Zwilling says. “There is some judgment call that the appraiser applies.”
But no matter what the reason, the goal of a valuation is the same.
“We have a fiduciary responsibility to have as accurate as possible an evaluation,” says Cedar Bay’s Cook. “It could be challenged. If a shareholder doesn’t feel he is being treated fairly, he can challenge an ESOP appraisal. The ESOP evaluation has to be pretty level or pretty thorough and as accurate as possible.”
HOW TO REACH: Mike Bass Ford, (440) 365-7323 or www.mikebassford.com; Cedar Bay Construction, (419) 627-0701 or www.cedarbayconstruction.com; Barnes Wendling CPAs Inc., (216) 566-9000 or www.barneswendling.com
