The Lawletter Vol 41 No 9
The South Carolina Supreme Court recently considered a case that provides a wealth of guidance on business valuation questions. Moore v. Moore, 414 S.C. 490, 779 S.E.2d 533 (2015).
The issue was one that arises often in divorce cases—is the goodwill of a business part of the business's value for purposes of a divorce case? Adopting the majority rule nationwide, the court held that the enterprise goodwill of the business is included, but that the individual goodwill of the owner is not included. Stated differently, the value includes goodwill that is transferable to another owner, but it does not include goodwill that is not transferable and resides in the owner individually.
The practical question, which has arisen in dozens of cases nationwide, is how to distinguish between the two types of goodwill. The court recognized, as most other courts have done, that goodwill need not be entirely enterprise or entirely individual. Businesses get their customers from many sources, and it is quite possible that some of those sources are individual to the owner, while others are transferable with the enterprise. For example, a dental practice might draw half of its customers from the individual reputation of the dentists, but the other half from the convenient location of its office building.
The court then suggested some factors to assist the bench and bar in distinguishing between individual and enterprise goodwill. The following factors tend to suggest that goodwill exists in the enterprise:
• Larger business, which has formalized its organizational structures and institutionalized its systems and controls.
• Owner-employee has employment agreement with company.
• The business is not heavily dependent on personal services.
• The business has significant capital investments in either tangible or identifiable intangible assets.
• The company has more than one owner, some of whom are not employees.
• Company sales result from name recognition, sales force, sales contracts and other company-owned intangibles.
• Company has supplier contracts and formalized production methods, patents, copyrights, business systems, etc.
Id. at 514, 779 S.E.2d at 546.
Conversely, the following factors tend to suggest that goodwill exists with the individual owner:
• Small entrepreneurial business highly dependent on employee-owner's personal skills and relationships.
• No employment agreement between company and employee-owner.
• Personal service is an important selling feature in the company's product or services.
• No significant capital investment in either tangible or identifiable tangible assets.
• Only employee-owners own the company.
• Sales largely depend on the employee-owner's personal relationships with customers.
• Product and/or services know-how and supplier relationships rest primarily with the employee-owner.
Moore also involved an interesting issue regarding the process of interacting with a valuation expert. The husband sent his expert a series of emails, urging the expert to assign a high value to the wife's business. The wife argued that these emails made the expert's opinion not credible. The court disagreed, but criticized the practice of pressuring experts:
We understand the games that are played in family court in the valuing of marital assets: the spouse expecting to receive an asset wants the asset valued as low as possible while the spouse not receiving the asset wants the asset valued as high as possible. We further recognize in this case that Husband attempted to play this game, as evidenced by the series of emails he sent to Woodside imploring Woodside to assign a high value to Candelabra. . . .
We are persuaded that Woodside, a highly respected expert, did not succumb to Husband's pressures. In fact, Husband admitted he argued with Woodside concerning a "multiplier" and "I fought him on it and he didn't give in." Therefore, we reject Wife's contention that we summarily dismiss the Woodside valuation.
Id. at 521, 779 S.E.2d at 549.
The husband was fortunate that his expert had a strong independent reputation and did not give in to the pressure placed upon him. Even then, it is worth noting that while the court refused to summarily reject the expert's valuation, it ultimately accepted the testimony of the wife's expert on a majority, though not all, of the contested valuation issues. The clear lesson is that openly pressuring an expert to produce a favorable valuation is a dangerous practice, which may well result in more harm than benefit.