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Financial Consulting

Are Your Advisors Advising?

By Maurie Cashman

Advisors are hired to do one thing – advise. Blindly relying on your advisors, no matter who they are, is not always in your best interest. A conversation I had today clearly underscored that fact.

Sam is president of a large regional distribution firm. There are multiple owners in the firm. One of the owners died recently and very unexpectedly. The only heir to this owner is his estranged spouse, living several states away. Sam has been very pleased with how the employees of the firm have pulled together during this stressful time to keep the firm going. However, today has been a hard day for Sam.

The heir to the deceased owner has informed the others that she has no interest in inheriting ownership and expects to be paid in cash for her inherited shares per the company’s buy-sell agreement. The agreement obligates the company to do so. The agreement provides that upon death of a shareholder the company is to be valued at fair market value and the estate is to be paid full value for the shares of the deceased owner. The company had purchased life insurance on each owner to provide at least partial protection under the buy-sell arrangement.

The company has grown significantly since the buy-sell agreement was put in place. Ten years ago a valuation was done establishing a value of $40 per share. The company has not had a valuation done since then.

The company has had its financial statements reviewed[1] each year by one of the largest accounting firms in the United States. Its share value for the buyout agreement was listed in the footnotes to the financial statements each year at $40/share or $4,000,000. The same accounting firm just told Sam that the fair market value of the company is now $80/share or $8,000,000. Insurance will cover $1 million and the deceased owner’s share is $3.2 million.

The remaining owners are now facing having to come up with the $2.2 million, nearly 30% of the company’s value, that was unplanned. The company needs to continue investing to support the firm’s strong growth. You can probably fill in the blanks on what could happen from there.

The company had invested well into six figures over the years to have their financials reviewed. Apparently the accounting firm did not think to look at the buy-sell agreement, even though it was clearly noted in the statements each year. The big-time insurance company apparently did not think to approach the firm after the initial policy was sold to determine whether the buy-sell agreement was adequately covered.

The employees and owners have done heroic work for years to build and protect the company. Will it now come undone because the advisors they hired didn’t do the same?

Could this happen to your company and its employees? Who’s watching the watchdogs?

© 2018 Aspen Grove Investments, Inc.

[1] Review. Intended to provide lenders and other outside parties with a basic level of assurance on the accuracy of financial statements Typically appropriate as a business grows and is seeking larger and more complex levels of financing and credit CPA issues review report. Source: AICPA