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Update on Business Goodwill in Valuation

Business Goodwill Image by Werner Heiber from Pixabay. Cropped by AxcessNews.

In business valuation, there are two types of goodwill determined by practitioners for legal proceedings, enterprise and professional, a.k.a., personal. Twenty-eight states now regard enterprise goodwill as part of the marital estate in dissolution, but not personal goodwill. Louisiana has even passed a statute to that effect. States allowing both enterprise and personal goodwill as part of the marital estate have shrunk to fourteen. Four states say neither form of goodwill is marital, and four have not yet taken a stand on the issue.

Closely related to personal goodwill is the matter of covenants not to compete (“CNC”). Most, but not all, states have categorized CNCs as personal assets, not subject to distribution. Source: Family Lawyer Magazine; by Shannon Pratt and Alina V. Niculita; February 20, 2020. On January 8, 2021, this topic was presented at the Florida Institute of Certified Public Accountant’s Valuation Forensic Accounting & Litigation Services Conference by the authors.

The progenitor case on this topic is a Florida case (Thompson 576 So. 2d 267 (Fla. 1991)), in which the existence of personal goodwill was determined to be nonmarital, which is not a problem in and of itself. However, in Kearney v Kearney 129 So. 3d 381, 390 (Fla. 1st DCA (2014), Thompson’s Red Dye Theory application delivered an unexpectedly strange result noted in Judge J. Maker’s observation noted below – driving Florida’s proposed legislative update.

Although the case law and legislation discussed in this article are particular to family law in Florida. We envision the proposed change in Florida law could set a precedent for future family law matters throughout the United States.

The Thompson Case

In Florida, the state Supreme Court’s instruction in Thompson v. Thompson to the business valuation analyst was to seek out and evaluate the various goodwill attributes of a subject business and determine (or opine on) whether each attribute is personal or enterprise goodwill:

“We, therefore, answer the certified question with a qualified affirmative: If a law practice has monetary value over and above its tangible assets and cases in progress which is separate and distinct from the presence and reputation of the individual attorney, then a court should consider the goodwill accumulated during the marriage as a marital asset. The determination of the existence and value of goodwill is a question of fact and should be made on a case-by-case basis with the assistance of expert testimony.” (emphasis added)

The Thompson court added:

Goodwill “is property which attaches to and is dependent upon an existing business entity.” Thompson v. Thompson, 576 So.2d 267, 269 (Fla.1991). In a professional setting, goodwill is the “value of the practice which exceeds its tangible assets and which is the tendency of clients/patients to return to and recommend the practice irrespective of the reputation of the individual practitioner.” Id. There are two types of goodwill: enterprise (or institutional) and personal. Enterprise goodwill “exists separate and apart from the reputation or continued presence” of a particular individual. Id. at

The problem? Most practitioners interpreted Thompson to mean, “if there is any professional or personal goodwill, the asset approach is the only appropriate method of valuing the business.” In other words, for the last two decades, most Florida valuation practitioners have been valuing only the cash accounts receivable, furniture, and equipment, minus debt for family law matters. They paid no mind to the source of cash flows into the company and whether those cashflows might be generating value beyond the personal goodwill. This logic, of course, makes sense when you’re valuing a small law practice where a single sole proprietor is generating the cash flows. But it makes no sense when you apply this same logic to a $500 million company with over 400 employees, which happened in the Kearney case.

The Schmidt Case

In Schmidt v. Schmidt, the 4th District Court of Appeal reversed the trial court’s valuation of the subject business and remanded for the trial court to ascertain the personal goodwill remaining in the marital portion of the business, which can be determined by analyzing what the value of the business would be if the business owner did not sign a covenant not to compete.

The trial court in Schmidt, when pressing the valuation expert to quantify the business value with and without a CNC, would have benefited from the expert’s reference to Thompson v. Commissioner, T.C. Memo 1996-468 (1996), where the Tax Court lists 11 factors to determine the economic reality of a CNC including the following: grantor’s business expertise, grantor’s intent to compete, grantor’s economic resources, potential damage to the grantee, grantor’s network, duration and geographic scope of the CNC (limited to seven years in Florida), enforceability by state law, age and health of grantor, payment terms, payment duration, and fairness of negotiations. Considering these factors, the analyst could opine on the likelihood and degree of the seller’s moral turpitude and the weight of countervailing actions from the buyer.

The trial court’s decision on remand remains unknown as of this date. In practice, however, most valuation analysts in Florida stayed with Thompson’s Red Dye Theory, stating, “if there is any professional or personal goodwill, the asset approach is the only appropriate method of valuing the business.” However, the 4th District Court of Appeal’s remand instructed the trial court to consider the CNC and its impact on personal and enterprise goodwill on the company value.

The Kearney Case

In Florida’s Kearney v Kearney family law matter, the District Court followed the logic of the Thompson case and awarded the entire $500M company value to the husband, which was not well received by Florida’s legal community.

Concurring in part, and dissenting in part, Judge Makar, J. stated:

“Millions of dollars are at stake in this complicated divorce case, one involving a large IBM computer distribution company, Mainline Information Systems, Inc., whose valuation is in dispute. The former husband and wife purchased the company in 1989, shortly after they were married, and built it into a highly successful international enterprise.

While I concur with Judge Benton’s opinion generally, I write separately to express disagreement with the astonishing conclusion reached at trial that Mainline-a company with over a half-billion in annual sales, over 600 employees, numerous high- level managers, and over 800 professional certifications among its workers-has not a thimbleful of “institutional goodwill” to its name; instead, to the extent Mainline has goodwill, it has been deemed entirely “personal” to the former husband, and thereby not distributable to the former wife as a co-owner.

Part of the problem is that Mainline’s valuation was done with the rudimentary analytical guidelines from the seminal professional services case, Thompson, which dealt with valuing a former husband’s law firm in which he was the sole shareholder. No reported appellate cases have applied Thompson outside of that type of professional association context or to a massive international corporate enterprise like Mainline. While Thompson may be workable for small or moderately-sized professional associations, it is a poor fit for valuing the goodwill of a complex and uniquely structured international corporation that is itself controlled by one of the largest corporations in United States history.”

The Florida Statute 61.075 Proposed Update

Currently, there is proposed legislation to clarify the value of goodwill in the marital interest of closely held businesses. In this proposal, the marital interest in a business shall be valued subject to the following guidelines:

(I) The standard of value of a closely held business is a fair market value defined as the price at which property would change hands between a willing and able buyer and a willing and able seller, with neither party under compulsion to buy or sell, and when both parties have a reasonable knowledge of the relevant facts. Rev. Ruling 59-60

(II) The Court shall determine the total value of the closely held business interest. If there is goodwill, separate and distinct from the owner spouse’s continued presence and reputation, that goodwill is a marital asset to be valued by the Court.

(III) While the Court shall consider evidence that upon a sale, a covenant not to compete (or similar restrictive covenant) may be required, this shall not preclude the Court from finding enterprise goodwill.

What will be the Impact on Attorneys and Valuation Experts?

How should the goodwill issues be addressed in response to the proposed update? That is a complex subject, and it is the reason to hire a business valuation expert who is familiar with this topic.

The Key Person’s Materiality

When valuing a company, the owner will often say how important they are to the company’s cash flows without realizing their statement’s negative impact on company value. The business owner may overlook that their goodwill cannot be sold to another company or person without a non-competition agreement, employment agreement, or earnout, affecting the fair market value. For example, a poultry processing plant owner may have a key relationship with Tyson, which would disappear if the relationship soured. This type of thinking was appropriate in the Thompson case, addressed in part by Schmidt, and became fully exposed in the Kearney matter.

Step #1 – Admit There is a Problem Dealing with Total Value

Nobody likes to admit they have a problem unless they have a solution for it. The proposed legislation admits and deals with overcoming the issues identified in Thompson, Schmidt, and Kearney, and there likely will be other states considering this approach to family law with its passing. Goodwill, both personal and enterprise, will be quantified in the conclusion of value.

Step #2 – Who is Running The Show?

In this step, the appraisal expert determines whether personal goodwill exists and to what extent it makes a difference in the measure of cash flows coming into the company. When analyzing personal and enterprise goodwill, the authors prefer the Simplified MUM method, a binary approach.

When analyzing a company, particularly when the company is small and growing, determining how much impact the owner has on its cash flows is critical. The following attributes are considered and quantified on a binary table to accomplish this task.

  1. Ability, Skills, and Judgement
  2. Age & Health of Owner
  3. Proximity of Contact
  4. Comparative Professional Success
  5. Marketing, Branding of Person
  6. Personal Referrals
  7. Personal Reputation Among Peers
  8. Personalized Staff
  9. Personalized Business Name
  10. Work Habits

It may seem counterintuitive to realize that to enhance their company’s fair market value, the owner(s) must relinquish control and decision-making authority to the CEO, CFO, and the board of directors. In other words, if the owner(s) of the company can stay home or stay at the beach while the cash flows are coming in, their company is much more valuable in the marketplace than if they were required to be there daily generating cash flows

The owner’s effort may (or may not) significantly impact cash flows as the company grows to mid-level in size or becomes large enough for an initial public offering (“IPO”). In other words, the owners may be doing little or nothing to affect the company’s cash flows daily, which is why the valuation expert must research the facts and understand who is doing what to affect cash flows.

Step #3 – Company Runs Itself

When analyzing a company’s enterprise, goodwill, it must be determined how much strength the company has in the marketplace and how much strength it has internally and whether the company can generate cash flows in the absence of the owner or ownership group. In other words, is the company strong and growing, or is it susceptible to competition and internal weaknesses? When estimating a company’s value, the valuation expert often performs a site visit and interviews management to determine its level of strength and weaknesses. Examples of business attributes considered are shown here:

  1. Assemblage of Assets
  2. Barriers to Entry
  3. Good location
  4. Multiple Locations
  5. Business Name
  6. Business Reputation
  7. Client List
  8. Recurring Revenue Streams
  9. Systems and Organization
  10. Workforce in Place

Step # 4 – Identify the Total Value

Due to the impact of the recent case decisions, the proposed legislation will require the valuation expert to engage professional attention, particularly as applied to family law, to the total value of the closely held business, accounting for goodwill in the intangible assets, non- competition agreements, and the possibility of a Daubert challenge, which are discussed below.

Intangible Assets

Intangible assets are something of value owned, which are not physically manifested. Examples are: name-brand value; customer lists, trade secrets; patents; royalty rights, goodwill, or non- competition agreements. Many of these assets can be readily sold, and some have developed databases concerning historical transaction prices.

Most smaller businesses have no significant entries for intangible assets on their books. However, larger companies, which are subject to GAAP public reporting standards, must have these entries. Determining these assets’ value for reporting is considered a business valuation practice since a business interest is valued, even though the subject interest is not a stand-alone business enterprise.

Intangible assets may be considered when developing an asset-based valuation approach. Typically, the tangible assets of a business enterprise are less than the value of a profitable concern. According to theory, this is because of the existence of intangible assets in the enterprise. An older version for accounting for intangible value within a business is the venerable Excess Earnings Approach. One problem with intangible asset valuation is that their values can fluctuate wildly within a short period

Non-Competition Agreements

The most common form of a non-competition agreement is a contract in which an employee is required to sign in consideration of employment when taken into the employ of a firm, that states the employee agrees not to engage in certain competitive behaviors for a specified period, including a period after the employee ceases employment. These types of agreements have become common among professional firms.

It is important to note that a legal opinion should be obtained about these agreements’ enforceability. Several court jurisdictions have refused to uphold non-competition agreements on the criteria they are a restraint of common law trade. If valuing a non-competition agreement is a facet of a valuation engagement, this should be addressed in appraisal assumptions. Internet searches concerning the State of California suggest that non-competition agreements have been legally prohibited in that jurisdiction. Be sure to check your state law! Moreover, certain professions may have rules concerning client retention standards.

It should be noted that employee agreements are not the only forms of Non-Competition Agreements. They are very common in the instance of the sale of a business enterprise. It is very reasonable to require a business enterprise’s seller not to open a competing business within a certain period after a transaction, particularly within a nearby geographic vicinity. After an acquisition transaction, the absence of such an agreement might affect a purchased business’ risk assessment and potentially impair its value. Also to be considered are contractual agreements protecting rights to intellectual property owned by the firm.

Employee non-competition agreements are frequently a facet of intangible goodwill determination if the party in question is an equity holder in the business. Essentially, personal goodwill is value contributed to a business by a specific individual who can capitalize upon that value upon departure. For example, a physician’s clients might follow should he/she should leave their current practice. Enterprise goodwill is simply the value of a business, not tied to an individual. Thus, if an employee-owner cannot compete with their prior practice, personal goodwill’s value is arguably diminished. Revenues from former clients might be diminished, but perhaps not to the same degree as if the departing party actively solicits their former clientele. Note that a non-competition agreement binding a non-owner employee would probably NOT be a facet of personal goodwill, at least in the context of a business equity division.

Can non-competition agreements be bought and sold? Probably not, which makes their valuation subjective, at least when being valued as discrete assets.

Non-Competition Limits

Effective July 1, 2019, Florida law now prohibits non-compete agreements between a physician and an entity that employs or contracts with, either directly or indirectly, all physicians who practice the specialty within the same county.

Daubert Challenge

When addressing the above issues arising from the proposed legislation, the valuation expert should expect a possible Daubert challenge. A Daubert challenge occurs when the validity of an expert’s testimony is challenged because of faults in the underlying reasoning and methodology used to form their opinion.

Frye Standard

Established in Frye v. the United States, 293 F. 1013 (D.C. Cir. 1923), a court applying the Frye standard must determine whether or not experts generally accepted the method by which that evidence was obtained in the particular field in which it belongs. Many states and federal courts have abandoned the Frye standard, in favor of the Daubert standard.

Daubert Standard

In Florida, we no longer use the “general acceptance” test under Frye. Instead, we follow Rule 702 of the Federal Code, which is meant to be flexible and broader than the Frye standard. In 2000, Fed. R. Evid. 702 was amended to codify the elements from Daubert Rule 702, which reads:

A witness who is qualified as an expert by knowledge, skill, experience, training, or education may testify in the form of an opinion or otherwise if:

  1. The expert scientific, technical, or other specialized knowledge will help the trier understand the evidence or determine a fact in issue.
  2. The testimony is based on sufficient facts or data.
  3. The testimony is the product of reliable principles and methods.
  4. The expert has reliably applied the principles and methods to the facts of the case.

Note: A person does not need to have a professional license to be qualified as an expert witness.

Appraiser’s Viewpoint

When considering a potential Daubert Challenge, it is important to consider the report’s audience and how knowledgeable it is in business valuation, and whether it meets the audience’s requirements and expectations. For example, in the Florida family law setting, the Thompson “red dye theory” is commonly used where the mere indication of a non-competition agreement taints the enterprise value, leaving the “out spouse” truly without a share of the business. It is good to see the legislature moving to higher ground on this issue.

Quantification of Goodwill

As the expert in evaluating the enterprise and personal attributes for quantification, the following questions should be asked to arrive at the relevant importance of the value, respectively, of the closely-held business

Multi-attribute utility model chart.

The following section will show where the appraiser took the 9% ratio of personal goodwill and applied it as a discount of $7.4M to the company value.

Valuation Discount (Where to Find It)

A discount for personal goodwill and the assessment of non-competition value can be reflected in one of two ways:

Option #1 (Company-Specific Risk)

Company specific risk chart

Option #2 (Discount from Final Value)

Business Valuation Expert Witness

Questions to ask the business valuation, expert:

See also Bruce Parisi’s story on Private Placement investments for business valuation practitioners.

Story Contributors

Richard West, Esquire, Bruce Parisi, MBA, ASA, ARM and Thomas Gillmore, CPA/ABV/CFF, CFE contributed to this story.

Richard West. Photo c/o Richard West

Richard West, Esquire


Richard West is board certified in Marital and Family Law by the Florida Bar. Richard is a Fellow of the American Academy of Matrimonial Lawyers and a Diplomat of the American College of Family Trial Lawyers. He has been in private practice for more than 40 years specializing in marital and family law. He has extensive experience in cases dealing with complex financial matters, including the valuation of closely held corporations, professional practices, and incentive stock options. Richard is based in Orlando, Florida, at the West Family Law Group. Orlando, Florida, at the West Family Law Group.

Bruce Parisi. photo c/o Bruce Parisi.

Bruce Parisi, MBA, ASA, ARM


Bruce Parisi holds an MBA from Case Western Reserve University and has been an Accredited Senior Appraiser (ASA) since 2007, by the American Society of Appraisers, and has also been credentialed in Appraisal Review and Management since 2015. Bruce has been professionally involved in finance for more than 30 years. Bruce is based in the Chicago area and is the principal of Vulcan Advisory Services.

Thomas Gillmore. Photo c/o Thomas Gillmore.

Thomas Gillmore, CPA/ABV, CFF, CFE


Thomas Gillmore is a nationally recognized contributor to the profession of business valuation. His industry- accepted Simplified MUM procedures have twice been published by Business Valuation Resources, a national publication, initially in February 2016, and secondly, in their Business Valuation in Divorce, Case Law Compendium – Fourth Edition 2019. Tom’s Simplified MUM was presented in a conference at the 2018 South East Chapter of Business Appraisers and prevailed on appeal in the state of Illinois, in the family law matter of Preston v Preston; 2018 IL App (2d) 170656-U.

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