Tuesday, January 27, 2015
Recently, I was involved in a divorce trial testifying on behalf of the wife who had an interest in the business her husband ran. Besides my business appraisal there was another business appraisal presented by the husband’s appraiser. The method he used is called “The Excess Earnings Method” and was developed by the US Treasury Department in 1920 to estimate lost goodwill suffered by breweries and distilleries because of Prohibition. It was never intended to be used to appraise businesses. The problem with this method is that it is hard to understand and therefore very easily manipulated. . The sales of the business were $635,000, with cash flow of $266,000 and assets of $186,000 (including $146,000 cash). The husband’s appraiser came in at $196,000. My appraised value was $560,000. My appraisal worked out to be less than two times the cash flow plus the assets and was an accurate valuation. Don’t take for granted that every appraiser will produce an unbiased appraisal, especially those using the Excess Earnings Method.