Forensic accountancy in divorce

Opening Pandora’s Box: The Expert that might or might not answer the questions you have about the business in your family case

Divorces and the related financial cases can be complicated. Sometimes after the initial disclosure process financial cases can take on a life of their own; particularly if there has been an element of non-disclosure or if poorly managed. It’s important to assess early on the type of experts that might be needed in a case; and the specific information that required to enable the parties negotiate settlement or help the court determine a case .

A forensic accountant may be called upon as an expert in financial remedy cases where one or both parties are involved in a business, be this a family business or where a party exclusively owns or has an interest in one or more businesses. The aim of a forensic accounting report is to provide a valuation of the business to the court that will inform their decision making in the context of all the assets.

At first instance it sounds like a simple process but the way the business is valued has to be tailored to the specific nature of the business; taking into account the assets, liabilities and it’s apparent performance in terms of profit and loss. It has to consider the businesses structure and also give attention to any third parties that may be impacted. No two businesses are the same and some are very unique. Some businesses may be yielding an important income for their owners but have no clear market or ‘saleable’ value. Other businesses may appear to have no great profitability but may be asset rich and have a clear market value that could be realised. The forensic accountant may need to adopt a particular method of valuation to suit the nature and performance of a business to give the most accurate value.

The most usual valuations will be undertaken using one of the following methods:-

• ‘Earnings’ based valuation – evaluating profit and future profits. The most common type of valuation.
• ‘Net Assets’ based valuations; quantifying the assets of business at their current market value – often used for non-trading or struggling businesses.
• ‘Enterprise’ based valuations – a combination of the first two that is adjusted to take into account surplus profits or liabilities or relevant discounts that consider the impact on value of other parties interests.

Accountants may from time to time employ other methods to achieve a more accurate valuation for a particular business or that may apply to a specific industry. The aim of the experts report is not only to value the business but provide realistic and achievable solutions that will either enable the parties to reach agreement or allow the court to determine the parties applications in a way that is fair.

Just a few of the unique challenges

• Due to the nature of private limited companies it can be difficult to determine the right approach. This is even more likely to be the case in a family business where both spouses have roles; whether active or inactive but are both dependent on the business for their income.
• Further complications will inevitably arise where there are other family members involved or working for the business.
• The issues may be no less difficult where one spouse is in business with a third party and their interests have to be considered. It may be difficult to assess the value of a distinct portion of the business separate from the business as a whole and discounts for minority shares are likely to be necessary
• Certain aspects of the valuation process may be difficult with many variables even for the expert; another reason that choosing the correct expert is essential.
• The specific nature of the business may add complexity.
• Many business assets are intangible. Every business has an element of ‘Good will’ . This intangible asset, a kind of expectation of repeat business or trade is both difficult to define accurately, to quantify or to value. Similarly intellectual property can be difficult to value.
• Records for companies may not be as detailed as an accountant would like. Future ‘earnings’ valuations are assessed in part by considering the trading accounts from previous periods. However to be more accurate they will ideally consider account projections, budgets and forecasts. A small private company that is owned and managed by the same person may not have good quality financial predictions and this will impact the accuracy of the report.
• The expert should be instructed to be solution focused ie. considering how assets/income could be capitalised to achieve a clean break or how to provide a continued income stream such as non-voting dividend.
• Some of the benefits of the company may be hidden within the accounts and company documents. Choosing the right expert will assist in ensuring any hidden assets and benefits are identified.

The way the court deal with business assets and appoint valuers

The instruction of an expert is ultimately determined by the court. Application may be made by the parties but only a Judge will decide if that expert is ‘necessary’ in line with the court rules that govern the instruction of an expert. Applications will need to be made using the correct procedure under part 25 of the Family Procedure Rules 2010. Usually, an agreed expert is appointed as a ‘single joint expert’ in line with those procedures, although there may be occasional exceptions to this rule; when the court consider this appropriate and more than one expert may be appointed. Where experts are required, identifying and agreeing the correct expert if possible is important. Identifying appropriate experts and likely cost is a key part of the application process and agreeing an expert can assist with the smooth management and running of a case and be cost effective.

The Matrimonial Cause Act 1973 is the key legislation applied to financial remedy cases. The courts power is limited to determining a value which can be used for comparison and determining the division of overall assets or ordering a sale. Companies are their own legal entities and are separate from their shareholders. This is an important distinction as the company has to be treated fairly and as a general rule under the Matrimonial Causes Act the court cannot distribute the company assets between the parties.

The court will often still consider a forensic accountant report necessary. However there is a wealth of case law that highlights the inherent difficulties already identified for the experts. In the case of Miller v Miller; McFarlane v McFarlane [2006] UKHL 24, [2006] 1 FLR 1186 Lord Nicholls at para [26] of his judgment in said valuation was ‘often a matter of opinion on which experts differ’. In other words the views of one expert might differ greatly to another. A good experts report will also try to point out the risks and strengths of a business to enable the court to understand whether the valuation is fair and accurate. It should look to provide practical and achievable options that allow the parties and the court understand the best way to deal with the business assets; taking into account the impact on the parties and the businesses themselves. The court have to endeavour to reach a settlement that is fair to all.

Further Considerations

It’s clear there are a host of challenges and the need for the valuation needs to considered carefully:-

1. Is the expert really needed? Can the parties find a way to agree the value of the business for the purposes of negotiation of a settlement. This could be achieved either via negotiation, using the collaborative process or mediation. The instruction of an expert is not inexpensive and may add significantly to both parties costs. The instruction will in normal circumstances be on a joint basis and therefore everyone’s mind should be focused on trying to narrow the issues in so far as possible.  In order to consider this approach it is suggested that both parties need to have a reasonable understanding of how the business operates and it profitability.

2. Where one party has not been actively involved in the business and disclosure has been limited with no desire to reach sensible compromises a valuation may be the only reasonable way for them to properly understand the nature of the business and have their interests protected.

3. Forensic accounting may help to expose assets and interests that have been hidden by clever accounting but impact significantly the value of the business.

4. The instructions to the expert need to be well thought out, where appropriate with collaboration with the expert to determine the methodology to be used for the valuation. A letter of instruction that fails to ask the correct questions about the specifics of the business may fail to produce a report that is helpful to the parties and the court.

5. Other related applications may need to be made prior to this to obtain key information from third parties. It is possible under the Family Procedure Rules to apply for both ‘search’ and ‘disclosure’ orders to obtain key information if this is not readily available

At Austin Kemp we consider business cases with both a matrimonial and commercial eye. When needed we can help you choose the correct forensic expert to assess the businesses that are involved. Making the right choices is essential whether you are protecting your business or seeking to have a spouses business assets properly assessed as part of a financial settlement. We have a wealth of time served experience amongst our lawyers so get in touch with us if you need support reaching a financial agreement.

Article written by Abigail Cooper | Associate Solicitor | Manchester Office

Meet Abigail, a highly experienced solicitor who has been providing expert legal advice for over 20 years. Abigail qualified as a solicitor in 1999 and has since focused on the areas of divorce, complex ancillary relief finance cases, and international divorce. With a wealth of experience in family law, Abigail has successfully handled cases including everything from prenuptial agreements to divorce and dissolution.

Abigail is a true expert when it comes to children, in particular where applications for shared residence and contact are involved. Her extensive knowledge and experience in this area have helped many families navigate the complex legal system and achieve positive outcomes for the children involved.

In addition to her expertise in children-related matters, Abigail has a wealth of experience in resolving financial disputes following relationship breakdown, particularly where there is a family business, shareholdings, and high value pensions. Her ability to navigate the complexities of these types of cases has helped many clients achieve a fair and just resolution.

If you are facing a difficult divorce or complex financial matters, Abigail has the knowledge, expertise, and experience to guide you through the legal process and help you achieve a favorable outcome. Contact Abigail today to schedule a consultation and discuss your specific case.

Email: abigail.cooper@austinkemp.co.uk

Tel: 0161 41 40 260

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