Assessing business accounts amid the rise in divorce filings

Friday June 11, 2021

A closer look at what experts look for when assessing the value of business assets

Following periods in lockdown as a result of the pandemic, data indicates that there has been a significant rise in the number of divorce cases. The UK’s largest family law firm, Stowe Family Law, reported a 95 per cent year-on-year increase in couples filing for divorce in the first quarter of 2021.

With this exponential increase comes additional pressure for the court system. Though the courts have admirably facilitated many cases in the past 12 months through remote means, platforms such as Zoom and Microsoft Teams are not entirely conducive in resolving particularly complex hearings. This will see a need to deal with a backlog of cases, whilst new divorce cases still reach the courts.

For those representing couples going through a divorce, now is an important time to take stock and assess the intricacies of those cases and what outcomes they hope to achieve. In many instances, lawyers will be looking to understand the value of any business assets involved that could represent cause for dispute. This area of divorce proceedings has become increasingly complicated in recent years – not least due to the impact of COVID-19 on businesses’ financial performance.

When assessing the value of a business, often with the support of an independent expert, legal practitioners need to consider the information available to them and whether it provides a true reflection of its value.

From the outset, there are challenges presented by the lack of detailed information available publicly. Government reforms in the past 10 years have reduced most SMEs’ financial reporting obligations such that the readily available information on Companies House – whether in the form of a balance sheet or notes – is extremely limited. While this was an important step in reducing the administrative burden on SMEs, it means there is little indication of a company’s current turnover or profitability. The process also lends itself to relatively subjective reporting, led by the agenda of the directors concerned.

Typically, the information available includes a business’ net assets. While this is an reasonable starting point, net assets paint just a small part of the overall picture of a business’ value. For example, one common asset shared among most businesses is an investment in property. With property values constantly evolving over time, the value cited in the reports on Companies House may well be far above or below current market value depending on when the asset was originally secured.

In the event that figures such as turnover and profitability are available, there still remains the challenge of assessing performance during the COVID-19 crisis. Typically, an expert will look to establish the value of a business using a multiple of earnings aligned with current economic conditions and the performance of the sector concerned. These assessments can change quite rapidly and have done so in the past year, with many businesses outperforming their previously underwhelming forecasts as the recovery has picked up pace.

Legal teams therefore will benefit from developing a good understanding of the wider picture. Indeed, one set of accounts cannot provide a true view. By requesting multiple sets of detailed accounts on behalf of their client, they can then begin to identify trends or unused assets that could be sold to generate value. Profit and loss statements, accompanied by detailed notes, will be particularly helpful in establishing trends and answering queries as to whether there are any:

  • Non-business or discretionary spends to be aware of
  • Costs relating to management or the directors and their duties
  • Unusual accounting policies
  • Reasons why the business is not considered a going concern
  • Interests in other entities
  • Post-balance sheet events

At a time of extreme economic volatility, identifying these trends while developing an in-depth understanding of a business’ performance will be crucial to valuing it appropriately. The exponential rise in divorce proceedings is a sensitive area, and it is important that they result in fair outcomes.