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Small Companies: Income and Assets of a Business Owner in Divorce (Part 3)

Writer's picture: Joe OberweisJoe Oberweis

Updated: 7 days ago

When small business owners are involved in a divorce mediation, determining its value becomes more complex than assessing a sole proprietorship. Unlike a sole proprietorship that depends entirely on the owner's labor, a business with employees may have intrinsic value beyond just the owner's contributions.


Key Considerations in Business Valuation

To fairly assess the value of a small business in mediation, it's important to consider several factors:

  1. Business Structure & Ownership:

    • Is it a single-member LLC, S-corp, or partnership?

    • Does the owner have 100% control, or are there other partners?

    • Are there any buy-sell agreements in place that dictate how ownership transfers?

  2. Revenue & Profitability:

    • What is the business’s revenue, and how much of it is profit?

    • Is the business owner’s salary separate from the business’s net income?

  3. Key Business Assets:

    • Physical assets: equipment, real estate, inventory, and cash reserves.

    • Intangible assets: brand reputation, customer lists, intellectual property, and goodwill.

  4. Marketability & Transferability:

    • Can the business continue operating without the owner?

    • Would a buyer be willing to purchase it as a going concern?


A Fictional Example: Lisa’s Landscaping

To illustrate these concepts, let’s consider a fictional business owner, Lisa, who operates a small landscaping company, Lisa’s Landscaping, LLC.

  • Lisa owns 100% of the business.

  • The company generates $2 million in annual revenue with Adjusted EBITDA of $300,000. (EBITDA is "Earnings before Interest, Taxes, Depreciation, and Amortization".)

  • She pays herself a $100,000 salary from the business.

  • The company has 25 employees, including office staff and landscapers.

  • Business assets include:

    • $150,000 in equipment (trucks, mowers, and tools).

    • A commercial property valued at $500,000 with a $200,000 mortgage.

    • $100,000 in cash reserves.


Determining Business Value

Unlike a sole proprietorship, Lisa’s business has value beyond her individual efforts. Even if she left, the company could continue generating revenue, making it a going concern.


There are several ways to value Lisa’s Landscaping:


1. Asset-Based Valuation

One approach is to total all the company’s assets and subtract liabilities:

Business Assets

Value

Equipment

$150,000

Commercial Property

$500,000

Cash Reserves

$100,000

Total Assets

$750,000

Liabilities

Value

Mortgage

($200,000)

Net Asset Value

$550,000

This method suggests Lisa’s business is worth $550,000. However, this does not consider the company's ability to generate income, which is often more valuable than its physical assets.


2. Earnings-Based Valuation

A more common approach is to apply a valuation multiple to the company’s profits. In small businesses like Lisa’s, multiples typically range from 2 to 5 times net earnings, depending on industry stability, risk factors, and growth potential.


If Lisa’s Landscaping has annual Adjusted EBITDA of $300,000, and we apply a 3x multiple, the business' enterprise value would be $300,000 × 3 = $900,000. Lisa's ownership (her "equity") would be valued at $900,000 - $200,000 (debt) = $700,000.


3. Market Valuation (Comparable Sales Approach)

Another way to assess value is by looking at similar businesses that have recently sold. If comparable landscaping businesses in the area are selling for 3.5 times EBITDA, we might adjust Lisa’s equity valuation to $850,000 ($300,000 × 3.5 - $200,000).


Dividing Business Value in Mediation

Once the business's value is established, the next challenge is determining how it factors into asset division. Here are some common approaches:

  1. Buyout Option: Lisa may compensate her spouse with other marital assets (e.g., home equity, retirement funds) instead of splitting business ownership.

  2. Structured Payout: If Lisa cannot afford an immediate buyout, she could agree to a structured payment plan over several years.

  3. Partial Ownership Transfer: In some cases, the non-owner spouse retains a minority stake in the business, although this is less common due to operational complications.


Handling Business Income for Spousal and Child Support

Beyond asset division, business income impacts spousal maintenance and child support calculations. Key considerations include:

  • Owner Compensation vs. Business Profits: If the owner's salary is artificially low to minimize tax liability, her spouse may argue that her true income is higher than her reported salary. If the couple owns 100% of the business, this doesn't matter (because the change to business income will offset any change to salary). However, if there are outside partners, this may require evaluation.

  • Personal Expenses Paid by the Business: If Lisa uses company funds for personal expenses (e.g., a family car lease, personal travel), those should be added back to calculate her true income.

  • Fluctuating Income: If Lisa’s business revenue varies seasonally, support payments may need to be based on a multi-year income average.


Final Thoughts

Valuing a small business in divorce mediation requires a balanced approach that accounts for both tangible assets and income potential. While no single method is perfect, combining asset-based, earnings-based, and market-based approaches can provide a clearer picture of a business’s true worth.


Ultimately, how you handle business valuation in mediation depends on the specific circumstances of your case. By considering both the business’s financials and its future earning potential, mediating spouses can work toward a fair and practical resolution.


IMPORTANT NOTE: This post reflects the opinion of the author relating to fairly evaluating net assets and income during the mediation process. It is not legal advice nor is it an indication of what a court may or may not order. Consult your attorney for legal advice.

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