Gare & Farlow (2023) FedCFamC2F 109

In the recent case of Gare & Farlow [2023] FedCFamC2F 109, Judge Forbes considered valuation issues.

This case also deals with parenting, but this note will focus on the valuation points.

The value of the wife’s business was one of the contentious issues.

At paragraph 17 of the Judgment, the Court said:

“The expert evidence regarding the valuation of the wife’s business was contested, complex and detailed.”

At paragraph 21, the Court said:

“The wife owns and operates F Pty Ltd (“˜the Business’). She is employed in the Business as a worker and manager. She asserts that she currently earns approximately $62,000 per annum although her earnings have varied over time and her potential income potential remains an issue in dispute.”

At paragraph 27, the Court said:

“In 1998, some ten years before cohabitation, the wife purchased the Business with a friend and business partner, Ms O, in equal shares. Each of them contributed $25,000 towards the $50,000 purchase. The pair incorporated F Pty Ltd to run the Business. At the time of purchase, the business premises was subject to a third-party lease for which the rental was $3,330 per month.”

A year later, the freehold of that premises came up for sale and the wife’s father and Ms O’s father-in- law purchased the premises. Importantly, no written lease was entered into between the business and the landlords, and the wife and Ms O were permitted to carry on the business in the absence of a written lease. They, however, continued to pay commercial rent at the rate it had been paid to the previous landlord at $3,330 per month and they maintained the property and paid all the outgoings.

By 2002, the wife purchased Ms O’s interest in the business for $75,000 and became the sole director and shareholder.

Between 1998 and 2002, the wife paid a total of $100,000 for the business. It continued to operate out of premises owned by her father as it does to this day.

At paragraph 31, the Court said:

“The wife contends that during her adult life, commencing in her late teens or early twenties, she has been the recipient of various loans from her father… A repayment of the “loans” by the wife to her father, shortly prior to separation, is the subject of dispute
in these proceedings.”

In 2014, the wife’s father purchased Ms O’s father-in-law’s interest in the business premises. Her father, Mr K, has never offered her a written lease and asserts he has no intention of doing so. The wife continues to occupy the premises and pay rent at the rate of $3,330 per month and outgoings.
She is required to keep the premises in good repair by redoing the floors, painting and landscaping approximately every three (3) years.

The absence of a lease is a relevant fact in the case. The husband argues that there’s no lease in place because of the father/daughter relationship and argues that they have refrained from entering any formal arrangement in order to minimise the value of the business as an asset in these

The wife asserts that by August 2018, her father made demand for repayment of a substantial portion of the funds owed to him and she paid him the sum of $106,681 from her savings.

Formal separation occurred in February 2019 after this payment.

The initial application was for a division of 70% to her.

The wife sought the appointment of a forensic accountant to value her business.

At paragraph 54, the Court said:

“On 6 November 2019, Mr G, the forensic accountant instructed by the wife, valued the business at $57,129, based on a valuation method developed by him over two decades….Mr G’s valuation was based on an assessment of the earnings before interest and taxation (i.e. EBIT) that could reasonably be expected to flow to a hypothetical purchaser as profit.”

The husband’s valuer valued the business at $60,288 on a fair market value basis.

He said, however, that he would have adopted a value of $361,723 for the business if it had an industry standard lease in place.

The husband’s valuer prepared an amended valuation assessing it to be valued as a going concern at $400,000 on a value to owner basis.

The wife’s valuer, Mr G, stayed with his valuation of $56,948.

By February 2022, the husband’s valuer valued her business at $429,500 on a value to owner basis.

Just before the trial, Mr H reverted to the same fair market value methodology used in the preparation in his November 2019 valuation, and he then expressed the realisable value of the business absent a commercial lease to be $224,820 on a fair market value basis.

The discussion of the valuation of the wife’s business in the Judgment commences at paragraph 102.

The wife’s case is that the business provides her with a source of income but if she were to sell it, she would not recover anything other than the cash value of the business assets. She agreed she could receive a higher return for the business if her father entered a written commercial lease with her or a prospective purchaser, but she said she had no intention of selling and that her father would not offer a written lease in any event.

At paragraph 109, the Court said:

“The gravamen of the husband’s case is that the Court should conclude, on the evidence, that in the event that the wife wished to sell her interest in the business, her father (as landlord) would provide a purchaser a suitable commercial lease for the continuation of the business at that site in order to maximise the financial return to his daughter by allowing her to realise the goodwill of a successful 20+ year investment.”

There is a heading in the Judgment called “Lay evidence”.

The wife has been able to draw a regular income of up to $130,000 per annum, but her salary had decreased substantially from about the time of separation.

The wife did not accept the contention that her father would enter into a lease so she could get the best possible price at time of sale.

The father said that he owned a number of commercial properties and that if she chose to close the business, he would revert the current business premises into another business centre.

His evidence was he wouldn’t provide a lease to a purchaser to maximise her gain as he would rather repurpose the building.

The father has many properties where he has no lease with the tenants.

The Court said of the father:

“I felt that his answers in cross-examination, although confidently expressed, were tailored to a narrative that would minimise the value of the business in the asset pool. In giving his answers my impression was that Mr K was not prepared to seriously countenance the possibility that his daughter would ever contemplate selling the business as a going concern…my impression was that Mr K did not really think it would ever happen and for that reason was confident to maintain the position that he would repurpose the building if his daughter did not want to continue operating the business. However, if confronted with the reality that his daughter’s business might realise well over $400,000 (on Mr H’s evidence) if sold with a lease, I have considerable doubt, given his previous acts of generosity, that Mr K would deny his daughter the opportunity to realise the fruits of her 25 year investment.”

Mr G said that he had given an opinion of the intrinsic value of the business rather than any market value. He explained he had produced an objective valuation based on the notion of a rational hypothetical purchaser meeting with a rational hypothetical vendor both possessed of the same information and both intent on acting in a rational manner. He said that his valuation was based on what the rational purchaser would be prepared to pay and what the rational vendor would accept.

One of the relevant considerations in such a hypothetical exchange of critical information would
include the true profit of the business after remunerating the owner. The price to be paid by a rational purchaser would be derived by capitalising the true profit by the capitalisation rate. Based on that analysis, a business with no viable EBIT would be considered unsaleable as a growing concern.

Mr G said he did not need to look at comparative sales under his valuation methodology.

He agreed he had not undertaken any market research to establish how much potential purchasers are paying for business in Victoria. He conceded also that in Australia, small businesses often, or at least sometimes, change hands on the basis of the purchaser buying themselves a job where the value of the business is derived by applying a multiplier to the proprietor’s wages.

Mr G remained steadfastly of the view that the approach taken by Mr H was flawed.

Mr H explained that “that without a long-term lease or ownership of the property on which the business is operated, the business had no goodwill value to a potential purchaser. The goodwill of the business is dependent upon a potential purchaser having the ability to continue to operate the business out of the same location after purchase. For goodwill to be transferred to a potential purchaser, a potential purchaser would require a transfer of lease or ownership of the property from which the business operates. These views are consistent with those expressed by Mr G” for the wife.

“The “˜value to owner’ approach to valuation was selected by Mr H (valuer for the husband) because it takes into account the value of the business in the hands of Ms Gare as the current sole director and operator and allows consideration of any benefits afforded to her that would not be available to a potential purchaser. In his opinion an appropriate way to value the wife’s interest, in terms of its actual value to her as owner, was to capitalise future maintainable earnings (or PEBITDA) using a multiple based on market data for sales of similar businesses.”

He determined the capital value of future income flows from the business rather than the price at which it may change hands.

While he acknowledged the business has no realisable value to a potential third-party purchaser without a long-term lease, he said he had taken into account the benefit of ownership which encouraged retention of the business by the owner for an indefinite period.

He said, “The value to owner methodology is appropriate because the value of the business to Ms Gare is higher than the value of the business to a potential purchaser“.

At paragraph 175, the Court began its conclusions as to the value of the business.

The Court reviewed a series of cases for principles in relation to valuation methods and stated:

“It is open to the trial judge as a matter of discretion to determine which valuation method is most appropriate, although the Court will of course be guided by (but it is not bound to uncritically accept) expert evidence on the issue.”

The Judge accepted the evidence of the husband’s valuer and valued the business at $429,500 on a value to owner basis.

This is clearly in the context where the Judge found the wife’s father’s evidence about a lease to be unsatisfactory.