How can you test the reasonableness and reliability of a buy-sell agreement valuation?

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A buy-sell agreement is a contract that governs the transfer of ownership interests in a business when certain triggering events occur, such as death, disability, retirement, or divorce. A key element of a buy-sell agreement is the valuation method, which determines how much the departing owner's share is worth and how the payment will be made. However, not all valuation methods are equally reasonable and reliable, and some may lead to disputes, litigation, or unfair outcomes. How can you test the reasonableness and reliability of a buy-sell agreement valuation? Here are some tips to help you evaluate and improve your valuation method.

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Svyatoslav Tsypin

?? Эксперт по слияниям и поглощениям (M&A) с 25 летним опытом | ?? Помогаю находить, покупать и продавать предприятия |…

1 Choose an appropriate valuation standard

The valuation standard is the definition of value that applies to the buy-sell agreement. It reflects the purpose and context of the valuation, and it influences the assumptions and adjustments that are used to calculate the value. There are different valuation standards, such as fair market value, fair value, investment value, and book value, and each one has its own advantages and disadvantages. You should choose a valuation standard that is consistent with your objectives, expectations, and legal requirements, and that is clearly defined and understood by all parties.

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Svyatoslav Tsypin

?? Эксперт по слияниям и поглощениям (M&A) с 25 летним опытом | ?? Помогаю находить, покупать и продавать предприятия | ?? Знаю, как найти и приобрести лучшие компании | ?? Создаю идеальные сделки с ценными активами
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Valuation of the purchase and sale agreement requires a systematic approach. First, it is important to analyze the valuation methods - should they comply with generally accepted standards, such as income, market or cost methods. Second, it is advisable to conduct a comparative analysis with similar transactions in the industry, which will allow you to assess market trends. It is also necessary to analyze financial indicators: reporting, revenue trends, profit and debt burden. In addition, it is necessary to evaluate the assets and liabilities that affect the financial stability of the company. To increase the reliability of the assessment, it is recommended to involve an independent expert for an objective audit.

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2 Use a credible valuation approach

The valuation approach is the method or technique that is used to estimate the value of the business or the ownership interest. There are three main valuation approaches: the income approach, the market approach, and the asset approach. Each approach has its own strengths and weaknesses, and some may be more suitable for certain types of businesses or situations than others. You should use a valuation approach that is based on sound economic principles, relevant data, and reasonable assumptions, and that reflects the characteristics and risks of the business.

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3 Update the valuation periodically

The valuation of a business or an ownership interest can change over time due to various factors, such as market conditions, financial performance, growth prospects, and industry trends. If the valuation method in the buy-sell agreement is not updated regularly, it may become outdated and inaccurate, and it may not reflect the current reality of the business. This can result in a mismatch between the value and the price, and it can create dissatisfaction or conflict among the owners. You should update the valuation periodically, either by using a formula that adjusts for changes in key variables, or by hiring a qualified appraiser to perform a new valuation.

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4 Review the valuation clauses

The valuation clauses are the provisions in the buy-sell agreement that specify the details of the valuation method, such as the valuation date, the valuation standard, the valuation approach, the valuation adjustments, and the valuation procedures. The valuation clauses should be clear, concise, and comprehensive, and they should cover all possible scenarios and contingencies that may affect the valuation. You should review the valuation clauses regularly, and make sure that they are consistent with the valuation method, and that they do not contain any ambiguities, errors, or loopholes.

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5 Seek professional advice

The valuation of a business or an ownership interest is a complex and subjective process that involves many judgments and estimates. It is not easy to test the reasonableness and reliability of a valuation method on your own, especially if you are not familiar with the valuation principles and practices. You should seek professional advice from a qualified and independent appraiser who can help you evaluate and improve your valuation method, and who can provide an objective and credible opinion on the value of the business or the ownership interest. A professional appraiser can also help you resolve any disputes or disagreements that may arise from the valuation.

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6 Here’s what else to consider

This is a space to share examples, stories, or insights that don’t fit into any of the previous sections. What else would you like to add?

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How can you test the reasonableness and reliability of a buy-sell agreement valuation?

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1 Choose an appropriate valuation standard

2 Use a credible valuation approach

3 Update the valuation periodically

4 Review the valuation clauses

5 Seek professional advice

6 Here’s what else to consider

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