Earnings from a business operated by both spouses may deteriorate when a marriage breaks down. Early in the process, it may become necessary to orders to preserve the business from losing its assets or earning capacity. Courts typically avoid ordering how to operate a business entity, unless they have no other choice.
Once a spouse leaves a community property business, s/he may remain entitled to receive a half of the business value. Different methods of actuarial accounting may reach different valuations. Lawyers may argue to select the most accurate valuation method.
Valuing an ongoing business operation during divorce litigation can be extremely challenging. Ordinarily we must hire accountants to inspect the company’s ledgers, balance sheets, income statements, tax returns, and other documentation of past transactions. What if the spouse who is operating the firm does not share the necessary documentation?
What if the information provided leads to an ambiguous or incomplete perception of value? If so, then formal discovery may be required to obtain the necessary original documentation, if necessary, down to the individual checks, deposit slips, or register tapes. The experts can use the original documentation to reconstruct the necessary summary documents themselves. This can be expensive and time consuming, but well worth it for a spouse frozen out of the business operation.
A paradox arises when dividing income earned after separation, between the community and the spouse who operates the business. The two rules of law are (1) income earned by a party after separation are that party’s separate property, and (2) the court must divide the property owned by the parties at the time of separation, equally. These rules appear to contradict one another, since a part of the income earned after separation is due to the value of the business entity, owned on the date of separation.
Moreover, it is common to find special transactions in the business entity, just before or after the date of separation, as a spouse either removes money from the business, or pays a substantial debt that accrued before separation. The evaluator may apply adjustments to the computation of value, to account for such transactions.
It is ordinarily necessary to hire experts to assess the historical cash flow information, compare that to the present business environment, and adjust for any special transactions that do not reflect the ordinary course of business. Experts may apply any of several business valuation methods to determine the proper business valuation.
Legal arguments may ensue, to determine which of several valuation methods is most appropriate under the circumstances.