Enterprise and entity valuations: what’s the difference and what do I need?

Enterprise and entity valuations: what’s the difference and what do I need?

There are many different circumstances where you may require a business valuation, such circumstances include when the time comes to sell your business, as part of your due diligence during a business acquisition or merger, for capital raising purposes, or as part of an internal group restructure, for taxation reasons, during commercial litigation or as part of a family law proceedings to determine the asset pool of the matrimonial estate.

When the need for a valuation arises people will often request a business valuation or a company valuation but it is important to be aware that not all valuations are the same. When seeking a valuation you first need to understand the different types of valuations and then ask yourself “why do I need a valuation?” so that you can determine what type of valuation is appropriate for your particular needs.

Enterprise valuations

The two main valuation types are enterprise valuations and entity valuations. In simple terms enterprise valuations value only the business which is being operated by an entity such as a company or trust. An enterprise valuation excludes any assets or liabilities that are not necessary to operate the business. An entity valuation on the other hand values the entity as a whole, this will include the value of any business operated by the entity and will also include any additional assets or liabilities that the entity may hold

Business or enterprise valuations ascribe a value to only those assets and liabilities that are necessary to operate a business and specifically exclude cash and debt. The total value of the equity in a business plus the value of its debt or debt-related liabilities, minus any cash or cash equivalents available to meet those liabilities. (International Valuation Standards Council)

Entity valuations

Entity valuations ascribe a value to all assets and liabilities of an entity including:

  • Business (including goodwill)
  • Cash
  • Debt
  • Surplus assets (such as land or other passive income-generating assets)
  • Proprietor/owners loan accounts and drawings accounts

When it comes to entity valuations it is also important to be aware that there are different types of entities that may need to be valued and depending on the particular nature of the entity being valued there are different issues that may require consideration. These issues often relate to the owners’ interest in the entity which may be represented by equity, loan accounts, unpaid beneficiary entitlements (in the case of a trust) and/or partnership balances (in a partnership).

What type of valuation do you need?

Once you have an understanding of the difference between enterprise and entity valuations you will then need to determine what type of valuation is appropriate for your needs.

If for example, you have decided it is time to sell your business then you will need to determine whether the purchaser will be acquiring the entity as a whole from the shareholders or owners or if the purchasers will only be buying the business from the entity which currently operates it. There are many considerations for both the vendor and the purchaser when deciding whether the entity or the business will be the subject of the transaction, these considerations ordinarily include taxation and liability/risk. Clearly, if you are selling or acquiring a business out of an entity then you will most likely need an enterprise valuation, conversely, if you are selling or acquiring an entity as a whole then you will require an entity valuation.

In the case of a divorce settlement, you are more likely to need an entity valuation as you will be endeavouring to determine the total asset pool of the matrimonial estate and this would need to include not just the business operated by the entity but also any surplus assets or liabilities that may be held in that entity. One important consideration in family law matters is to understand the implications of any proprietor loan accounts or unpaid beneficiary entitlements as this will impact the asset pool of the matrimonial estate. For example, XYZ Trust operates a consulting business and is controlled by the wife. XYZ Trust is valued at $1 million including among the assets and liabilities the consulting business and unpaid present entitlements (beneficiary loan accounts) of $500K owing to the wife. Whilst XYZ Trust is valued at $1 million, the wife’s interest in the entity is actually $1.5 million as she is also entitled to receive her unpaid present entitlement in the amount of $500K.

The differences between entity and enterprise valuations is just one of the complexities that may arise when considering a valuation. Should you need any assistance in this space please contact us.