Standards Though the Eyes of a Practitioner
Reconciling compliance with multi-agency valuation standards
While standards exist to uphold the integrity of business valuation, multi-credentialed professionals can face a daunting task when trying to compare and comply with all guidelines across the spectrum of issuing agencies. This article seeks to root out possible conflicts and create clarity among standards so valuators may perform with less effort and more accuracy.
Business valuation standards provide an important role in ensuring baseÂ levels of quality in the conduct of this work. In that way, these standardsÂ serve to protect the user community from receiving, and depending upon,Â substandard work that may result in incorrect results.
Professional business valuation standards were created to provide usefulÂ guidance to the respective members of the American Institute of Certified PublicÂ Accountants (AICPA), Institute of Business Appraisers (IBA), American Society ofÂ Appraisers (ASA), the National Association of Certified Valuators and AnalystsÂ (NACVA), and other professionals performing valuation services. Further, eachÂ organization provides outstanding guidance to its members through its specificÂ standards documents. However, for the multi-credentialed practitioner,Â compliance with multiple business valuation standards can appear to be daunting,Â if not overwhelming.
As a long-standing instructor for NACVA and member of the NACVA StandardsÂ Committee, I receive many questions from accredited NACVA members on how toÂ apply both NACVAâ€™s Professional Standards, as well as the AICPAâ€™s Statement onÂ Standards for Valuation Services (SSVS No. 1), in their practice. Since manyÂ accredited NACVA members are also CPAs with membership in the AICPA, they areÂ required to adhere to both sets of valuation standards, which may provide someÂ inherent confusion to accredited NACVA members in implementing these standardsÂ in practice. However, the primary principles underlying NACVAâ€™s ProfessionalÂ Standards and the AICPAâ€™s SSVS No. 1 are the same, as explained in this article.
The NACVA Professional Standards total 21 pages in length, consisting of sevenÂ pages of general and ethical, development, and reporting standards. TheÂ remaining 14 pages include the title page, the table of contents, and anÂ appendix for the International Glossary of Business Valuation Terms.
SSVS No. 1 totals 76 pages in length, consisting of 30 pages that discuss theÂ scope of valuation engagements, overall engagement considerations, developmentÂ and reporting standards. The remaining 46 pages include the title page, theÂ copyright page, contents of statement, foreword, and appendices for theÂ Illustrative List of Assumptions and Limiting Conditions for a BusinessÂ Valuation, the International Glossary of Business Valuation Terms, Glossary ofÂ Additional Terms, Interpretation No. 1-01, Scope of Applicable Services of SSVSÂ No. 1, and a list of those involved in drafting the standards.
Let me be clear. I believe both documents are outstanding. Further, I believeÂ both documents were drafted in a manner to best serve the individual members ofÂ each respective organization.
I recall making a presentation in Chicago to approximately 350 CPAs on the topicÂ of SSVS No. 1 and theÂ NACVA Professional Standards shortly after SSVS No. 1 was released. I wasÂ discussing the principles on the use of approaches and methods as discussed inÂ both standards documents. I saw 350 people looking at me as if I was speakingÂ another language. I stopped and asked the attendees a question: â€śHow many of youÂ here have been exposed to formal business valuation training?â€ť A show of handsÂ indicated that only about 10 to 15 percent had any formal business valuationÂ training. At that moment, I believe I grasped the insight the authors of SSVSÂ No. 1 must have had when they wrote it.. SSVS No. 1 provides further guidanceÂ and explanatory material in order to be more understandable to those members whoÂ may have little or no formal business valuation training as well as to improveÂ the consistency and quality of practice among AICPA members performing businessÂ valuation services.
Alternatively, as one of many authors of the NACVA Professional Standards, theÂ provisions promulgatedÂ were directed to CVAs with formal business valuation training. The detailedÂ guidance underlying the general principles outlined in NACVAâ€™s ProfessionalÂ Standards are found in the NACVA membersâ€™ training materials. This factorÂ allowed us to condense NACVAâ€™s Professional Standards to seven pages. Yet, IÂ believe that the underlying principles are the same under both sets ofÂ standards.
Let me explain this by comparing the underlying principles of both sets ofÂ standards and the topics covered by SSVS No. 1 and the NACVAâ€™s ProfessionalÂ Standards:
- Approaches and Methods
Approaches and Methods
Under Section F, â€śApproaches and Methods of the Development Standards,â€ť theÂ NACVA Professional Standards state:
Valuation methods are commonly categorized into theÂ asset-based, market, income, or a combination of these approaches. ProfessionalÂ judgment is used to select the approaches and the methods that best indicate theÂ value. Rules of thumb are acceptable as reasonableness checks, but should not beÂ used as a stand-alone method.
In SSVS No. 1, Paragraphs 31, 32, and 39 of the Development Standards stateÂ the following:
Valuation Approaches and Methods
In developing the valuation, the valuation analystÂ should consider the three most commonÂ valuation approaches:
Income (Income-based) approach
Asset (Asset-based) approach (used for businesses,Â business ownership interests, and securities) or cost approach (used forÂ intangible assets)
Market (Market-based) approach
The valuation analyst should use the valuationÂ approaches and methods that are appropriateÂ for the valuation engagement. General guidance on the use of approaches andÂ methods appears in paragraphs 33â€“41, but detailed guidance on specificÂ valuation approaches and methods and their applicability is outside the scopeÂ of this Statement.
Rules of Thumb. Although technically not aÂ valuation method, some valuation analysts useÂ rules of thumb or industry benchmark indicators (hereinafter, collectivelyÂ referred to as rules of thumb) in a valuation engagement. A rule of thumb isÂ typically a reasonableness check against other methods used and shouldÂ generally not be used as the only method to estimate the value of the subjectÂ interest.
The underlying principles under â€śValuation Approaches and Methodsâ€ť and â€śRulesÂ of Thumbâ€ť are identical. NACVA stated the principle in one paragraph while SSVSÂ No. 1 stated the same principle in three short paragraphs. However, paragraphsÂ 33-41 of SSVS No. 1 provide additional guidance and explanation of the threeÂ valuation methods, but this further guidance and explanation may not beÂ necessarily required for someone formally trained in business valuation.Â However, as further stated in paragraph 32, it is important to note that SSVSÂ No. 1 goes on to explain that even further detailed guidance on specificÂ valuation approaches and methods and their applicability is outside the scope ofÂ this Statement. This informs the analyst that paragraphs 33â€“41 give the userÂ general guidance on the principles outlined in paragraph 31, but it is theÂ professional judgment of the analyst to apply the specific approaches andÂ methods used on a specific valuation engagement.
Under Section I, â€śDocumentation of the Development Standards,â€ť the NACVAÂ Professional Standards state, â€śQuantity, type, and content of documentation areÂ matters of the member’s professional judgment. Members should retainÂ documentation for a sufficient time period to comply with legal, regulatory, andÂ professional requirements.â€ť
In SSVS No. 1, â€śDocumentationâ€ť is covered in Paragraphs 44 and 45 and states theÂ following:
Documentation is the principal record ofÂ information obtained and analyzed, proceduresÂ performed, valuation approaches and methods considered and used, and theÂ conclusion of value. The quantity, type, and content of documentation areÂ matters of the valuation analyst’s professional judgment (emphasis added).Â Documentation may include:
Information gathered and analyzed to obtain anÂ understanding of matters that may affect the value of the subject interestÂ (paragraphs 25-30)
Assumptions and limiting conditions (paragraph 18)
Any restriction or limitation on the scope of theÂ valuation analystâ€™s work or the data available for analysis (paragraph 19)
Basis for using any valuation assumption during theÂ valuation engagement
Valuation approaches and methods considered
Valuation approaches and methods used including theÂ rationale and support for their use
If applicable, information relating to subsequentÂ events considered by the valuation analyst (paragraph 43)
For any rule of thumb used in the valuation,Â source(s) of data used, and how the rule of thumb was applied (paragraph 39)
Other documentation considered relevant to theÂ engagement by the valuation analyst
The valuation analyst should retain theÂ documentation for a period of time sufficient to meetÂ the needs of applicable legal, regulatory, or other professional requirementsÂ for records retention.
Again, the underlying principles for documentation are identical under bothÂ sets of standards, but SSVS No. 1 also defines â€śdocumentationâ€ť and providesÂ examples of documents that may be included.
Independence and Valuation
One paragraph in SSVS No. 1 not addressed in NACVAâ€™s Professional StandardsÂ deals with the topic of independence while performing an attest engagement.Â Paragraph 15 of SSVS No. 1 states:
- If valuation services are performed for a client for which theÂ valuation analyst or valuation analystâ€™s firm also performs an attest engagement (defined by Rule 101 of theÂ AICPA Code of Professional Conduct), the valuation analyst should meet theÂ requirements of Interpretation No. 101-3, â€śPerformance of Nonattest Services,â€ťÂ under Rule 101, Independence (AICPA, Professional Standards, vol. 2, ET sec.Â 101.05), so as not to impair the memberâ€™s independence with respect to theÂ client.
As a practitioner, I review both sets of standards documents in theirÂ entirety in the same manner as presented above when performing a businessÂ valuation assignment. I suggest you do the same for those valuation standardsÂ with which you are required to adhere. In general, I have found no materialÂ conflicts in the underlying principles when complying with SSVS No. 1 andÂ NACVAâ€™s Professional Standards in performing my valuation assignments. However,Â it is important for each individual practitioner to identify appropriateÂ guidance (i.e., valuation standards) and compare principles across theseÂ applicable sets of valuation standards when appropriate. In your review, youÂ should pay special attention to the words must, should, and may as they willÂ give you more specific direction as to action.
Mark G. Kucik, CPA, CVA, CFF, CM&AA, is with Kucik Valuation Group, LLC, based in Chicago, IL. He can be reached at email@example.com.
Portions of this article are based upon Jim Hitchnerâ€™s â€śDo You Know…â€ť Issue 5, December 2013, a free electronic periodical from Valuation Products and Services.