Valuation Dates and Subsequent Events by Sharon F. Foote, ASA, CFE
Posted on February 09, 2016 by
One of the key characteristics of a business valuation is that it is the value of a business interest as of a specific point in time. Therefore, establishing the valuation date is of great importance and should be done at the beginning of the information-gathering stage. It is possible that the value of the business could be materially different even a day earlier or a day later.
Valuations for some purposes have dates that are easily established. For example, for estate tax purposes, the valuation date would be the date of death or, if elected by the estate’s personal representative, the alternate valuation date (six months after the date of death). For gift tax valuations, the valuation date should be the date of the gift’s transfer. In divorce situations the date of filing of the case is typically, but not always, the valuation date. Discussions with clients and/or counsel may be necessary in other scenarios, particularly when litigation is involved and a valuation is needed, in order to establish the appropriate valuation date.
If the value of the company changed (either upward or downward) due to an event after the valuation date, what should be done? The general rule is that events subsequent to the valuation date are disregarded unless they were “known or knowable” at the date of valuation.
Subsequent events may materially affect the fair market value of a company, which is the appropriate standard of value for estate or gift tax filing purposes. The definition for fair market value is contained in IRS Revenue Ruling 59-60, as well as Treasury Regulations §20.2031-1(b) and §25.2512-1. The definition states “the price at which property would change hands between a willing buyer and a willing seller…both parties having reasonable knowledge of the relevant facts.” This definition is interpreted to mean what facts were “known” or “knowable” as of the valuation date.
Statement on Standards for Valuation Services (SSVS-1) issued by the American Institute of Certified Public Accountants (AICPA) in June 2007, states: “Generally, the valuation analyst should consider only circumstances existing at the valuation date. An event that could affect the value may occur subsequent to the valuation date; such an occurrence is referred to as a subsequent event. Subsequent events are indicative of conditions that were not known or knowable at the valuation date, including conditions that arose subsequent to the valuation date. The valuation would not be updated to reflect those events or conditions. … In situations in which a valuation is meaningful to the intended user beyond the valuation date, the events may be of such nature and significance as to warrant disclosure (at the option of the valuation analyst) in a separate section of the report in order to keep users informed … Such disclosure should clearly indicate that information regarding the events is provided for informational purposes only and does not affect the determination of value as of the specified valuation date.” (SSVS-1, AICPA, Section 43, pages 20-21.)
It is essential that valuators differentiate between events that could be foreseen at the valuation date and those events that could not. For illustrative purposes, consider whether an agreement executed shortly after the valuation date with a new major customer would likely be known or knowable at the valuation date. It was most likely in the works at the valuation date and, therefore, known or knowable at that point. On the other hand, a major storm that causes major damage to the business and its facilities shortly after the valuation date would not have been known or knowable and, therefore, should not be considered in the valuation. However, the differentiation is not always so obvious and must be thoroughly examined and considered by the valuator in each instance.
The Tax Court (as have other federal courts) historically favored consideration of subsequent events when they are reasonably foreseeable, as of the valuation date, by the hypothetical purchaser or seller. Furthermore, the Court looked favorably upon examinations of subsequent events that demonstrate the reasonability of the expectations of hypothetical purchasers or sellers or substantiate the valuator’s assumptions. Cases such as Estate of Helen Noble v. Commissioner, TC Memo. No. 2005-2, and Estate of John Koons v. Commissioner, T.C. Memo 2013-94, may be helpful to review.
In conclusion, we believe the best approach for valuators is to objectively scrutinize subsequent events together with their clients, to conclude if those events would have had an impact on the business’s value had they been “known or knowable” as of the valuation date and then to thoroughly document such examination and the resulting conclusion.
About the Author: Sharon F. Foote, ASA CFE, is a manager in Berkowitz Pollack Brant’s Forensic and Business Valuation Services practice. For more information, call 305-379-7000 or e-mail firstname.lastname@example.org.