“Sorry darling, the business is bust”. How businesses should be dealt with on divorce in the current economic climate.

As family lawyers we frequently question and assess business interests.  Whether you deal with multinational companies or small self-employed sole traders it is important that we are all able to work in our client’s interests.  In this article I consider valuations and liquidity, and the court’s approach to the problems we frequently encounter with these issues.

Valuation

We have all encountered the scenario: a business, which has historically supported a family and appeared healthy, suddenly at the point of Forms E shows a dramatic decline.  There is an obvious incentive for the spouse with the business interest to manipulate the accounts.

As solicitors we can work in partnership with accountants to establish the true value. This will include investigating the business and analysing past performance. Market research can also be important, unquestionably many businesses will have been affected by the current economic climate – but not all – some thrive.  Healthcare suppliers, debt collectors, garden centres and car repairers in contrast would usually experience an upswing.

It is important to conduct an analytical review of the accounts to look at the relationships between the various figures. For example, sales and costs of sales vs.  payroll, overdraft loans vs. creditors.

There are also key areas we need to look out for.  We must be cautious not to over rely on management accounts, which are for internal purposes and easy to manipulate.  Key signs of business failure may include deteriorating debtor collection, reduced cash at bank / increased overdraft or an ever widening search for new suppliers.  On the flip side positive signs may include increased accountancy costs and changes to fixed assets and funds which may indicate new activities / expansion, changing accountancy policies, overspending, over providing for costs, including incorrect values or being over prudent in levels of depreciation.

Case law

There are various methods the courts can employ when valuing business interests.  It is dangerous to adopt a ‘one size fits all’ approach, rather than looking at the realities of a business and considering broader solutions that may avoid the huge expense of valuations and Final Hearings.

There are discrepancies between the approach in the higher and lower courts.  Invariably the lower courts will order that a formal valuation be undertaken.  There is, however, an innate danger in relying too heavily upon this, particularly if one party is offsetting the company against other assets.  In contrast, the higher courts tend to look more broadly at the assets and use a company value to test fairness, rather than to produce accounting accuracy.  Rather than asking for a straightforward valuation, which can be hugely costly (in particular if it is contested) it is often sensible to focus on liquidity – whether there is cash in the business or whether it can be used as a means of raising capital.

More favourable negotiations are likely to take place if the business disclosure is transparent and detailed. Invariably a co-operative approach will make both the court and the non-business owner more likely to accept points submitted and less likely to engage in a ‘witch hunt’.   It is usually best to avoid using the existing accountant. They are unlikely to have experience as an expert witness, and this could be starkly apparent when pitched against a forensic accountant who deals with this work routinely.

Helpful presentational tips for a form E include a SWOT analysis (strengths, weakness, opportunities, threats).  In bad times these may include a fall in sales and risk of redundancy.  In good times these may be increasing staff costs, the impact of a strong £, third party interests and / or the involvement of family.

We are all used to considering the types of order that a court may make – transfer of shareholding, lump sum of funds extracted from the business, sale either of assets or the whole, or an order that the holdings of a pension fund be transferred.    However, we should also bear in mind ‘outside the box’ suggestions, including dividing the shares into ‘A’ and ‘B’ with the latter having no voting rights but full dividend rights (backed up by a nominal order if the dividends are not paid), adjourning lump sum claims pending sale of the business on retirement, or treating the divorce settlement as an interim stage in longer IHT planning.

If you have any queries about this article please contact jonesnickolds on 0203 405 2300 or contact@jonesnickolds.co.uk