Executive Summary
Disagreements between business partners and shareholders can escalate from minor conflicts into costly legal battles that threaten the viability of the enterprise. When partnerships dissolve, shareholders reach deadlocks, or buyout negotiations stall, determining the financial value of business interests becomes the central point of contention. A shareholder dispute valuation expert provides the objective, data-driven analysis necessary to resolve these conflicts both in and out of court.
Valuation experts serve multiple functions in partnership dispute valuation and shareholder disputes. During litigation, they calculate the fair market value or fair value of the business and individual ownership stakes using proven accounting methodologies. They analyze revenue streams, profitability trends, assets and liabilities, growth potential, market comparisons, and the specific rights and restrictions attached to the interest being valued. See our business valuation services.
When This Issue Arises
A valuation expert becomes essential in shareholder and partnership disputes in several situations:
- Deadlock disputes where shareholders or partners cannot agree on business direction and a buyout is required
- Oppression claims where minority owners allege their interests have been unfairly diluted or their rights suppressed
- Breach of fiduciary duty cases where a controlling owner allegedly diverted opportunities or inflated compensation
- Dissolution proceedings where a fair division of business value is required to close out the entity
- Buyout agreement disputes where a formula-based price produces results that one party disputes on economic grounds
The valuation expert’s role is to provide a defensible conclusion about the value of the subject interest, using the standard of value (fair market value, fair value, or another contractual standard) required by the governing agreement or applicable law.
Accepted Methods and Frameworks
The three standard approaches to business valuation — income, market, and asset-based — each have applicability in shareholder and partnership disputes. The income approach estimates value based on the expected future earnings of the business, typically using a capitalization of earnings or a discounted cash flow model. The market approach compares the subject company to publicly traded guideline companies or recent private-company transactions. The asset-based approach looks at the underlying net asset value, and is most commonly applied to holding companies or businesses where the value lies primarily in tangible or intangible assets.
In shareholder disputes, additional complexities arise around valuation adjustments. Discounts for lack of control (minority interest discounts) and discounts for lack of marketability may or may not apply depending on the standard of value required and the jurisdiction’s approach. Some states require fair value — a standard that may exclude these discounts — rather than fair market value. The applicable standard shapes both the methodology and the conclusion.
Documents and Data Checklist
- Three to five years of financial statements (income statements, balance sheets, cash flow statements)
- Federal and state income tax returns for the same periods, including supporting schedules
- General ledger detail and trial balance
- Operating agreements, partnership agreements, shareholder agreements, and buy-sell agreements
- Minutes of board and shareholder meetings relevant to the dispute
- Compensation records, including salary, bonus, and benefit details for all owners
- Related-party transaction records
- Customer contracts, revenue agreements, and backlog data
- Industry benchmarks and comparable transaction data
Common Pitfalls and Rebuttal Strategies
Common pitfalls in shareholder dispute valuations include: applying the wrong standard of value (using fair market value when the agreement or state law requires fair value); applying minority discounts inconsistently with the applicable standard; normalizing earnings without adequate documentation; and using outdated or non-comparable market data.
Rebuttal strategy: every normalization adjustment should be tied to specific evidence in the financial records. Market data should be documented with source citations and should explain why each comparable is relevant or irrelevant to the subject company.
Frequently Asked Questions
What is the difference between fair market value and fair value in a shareholder dispute?
Fair market value is the price at which an asset would change hands between a hypothetical willing buyer and willing seller, with neither under compulsion and both having reasonable knowledge. Fair value is a statutory standard used in many state dissenter’s rights and oppression statutes. Fair value may exclude discounts for lack of control and lack of marketability that would reduce fair market value. The applicable standard depends on the governing agreement and applicable law.
Should minority interest discounts be applied in shareholder disputes?
It depends on the applicable standard of value. Under fair market value, discounts for lack of control and lack of marketability are typically applicable. Under fair value, many jurisdictions exclude these discounts. The expert must identify the applicable standard and apply it consistently throughout the analysis.
What records are most important for a business valuation in a shareholder dispute?
Financial statements, tax returns, and operating agreements are essential. Compensation records, related-party transactions, and board minutes are often equally important in disputes involving allegations of self-dealing or diversion of corporate opportunities.
Contact Joey Friedman CPA PA to discuss how a shareholder dispute valuation expert can assist in your partnership or shareholder matter.
Disclaimer: This article is for informational purposes only and does not constitute legal advice. Outcomes depend on specific facts and circumstances.