Valuing a Business: The Site Visit and Management Interview
By Joseph A. DeCusati, CPA, ABV, ASA, CFE, Managing Director, Valuation and Litigation Support Services
The site visit and management interview are an essential part of the process of developing a business valuation opinion. The management interview provides the appraiser an opportunity to “fill in the gaps” on questions that often arise during the preliminary analysis of the financial documents. The interview will also help the appraiser develop a better understanding of how the particular business operates.
Why Perform a Management Interview?
Attorneys and business owners often ask about the purpose of a site visit and management interview. There are a number of reasons to perform a site visit, including:
- Gaining a general understanding of the subject company, business operations, and work flow.
- Making determinations about management of the subject company.
- Assessing the risks confronted by the subject business.
- Correlating the financial results of the business from the story told by the financial documents to the operations of the business as observed during the tour of the facility.
- Gaining assurance that all necessary financial and operational disclosures have been received and are understood.
- Identifying the factors affecting the neighborhood and local economy.
- Testing the company’s ability to meet forecast results.
The valuation of a business is more of an art than a science. Part of that art includes making the appropriate choices about the subjective decisions faced by appraisers when developing professional opinions. The management interview provides appraisers an opportunity to assess the risk profile of the business as a whole, as well as its individual components. If an appraiser asks probing questions, the business owner and/or key individuals may also walk away from the process with information about the business that they might not have previously had.
Determining Which Individuals to Interview and Where to Interview Them
Determining who should be interviewed may depend on what is learned from a preliminary analysis of the company’s financial documents and organizational chart. An industry analysis may also reveal the key aspects of the business structure. The individuals interviewed will ideally provide the appraiser with an important perspective on the subject company. The nature, size, and complexity of the business enterprise generally guide the appraiser’s design of the interview process.
Another consideration revolves around where the interviews should take place. Small businesses with centralized locations usually do not require the appraiser to meet with more than a few select individuals or at more than a single location. However, some larger and more diverse businesses (with multifaceted product lines and multiple layers of management) may require the appraiser to meet with numerous individuals at multiple locations.
The valuation of many smaller, closely held businesses often involves the interview of a senior executive and a financial representative (controller or CFO). While space is sometimes limited due to the constraints of the office location, an appraiser would typically request a private space in which to conduct the interview so that confidentiality can be ensured. This can allow information to be shared among participants without concerns of disseminating confidential data to unauthorized individuals or causing disruption to the business. The information that is garnered in these internal management interviews may often lead to follow-up interviews with an external accountant or legal advisor of the subject company.
In a “one-time” valuation engagement, it is common to meet in person at the place of business. In recurring valuation engagements, a telephone interview or video conference may replace the in-person interview. Material changes in the financial results, facility, or key personnel will likely affect the appraiser’s decision regarding performing an in-person interview.
The Interview Process
Some appraisers prefer to start their interviews with a tour of the facility. Doing so during business hours, with the appropriate management personnel, provides an understanding of how the business conducts its operations. A useful tour will potentially allow the appraiser to understand how revenues are generated, capacity, bottlenecks, work flow, company-specific risks, and other attributes of the production cycle of the business.
The interview of senior management should help provide an understanding of the key industry and economic drivers for the business. The supply and demand features of the product, the influence of regulation, commodity pricing, labor needs and demands, evolution of the industry, and many other areas of investigation can be important in understanding the company’s real-time and long-term risks, challenges, and opportunities.
Key internal and external elements of the business can then be addressed. At this stage of the process, the appraiser should have a big-picture grasp of the economic and industry attributes of the business. The appraiser can then delve deeper into the functional and descriptive specifics of the company, which help to complete the appraiser’s understanding and can provide proper narrative documentation of the business in the valuation report. Descriptions and lists of the products, key suppliers, key customers, personnel, management organization, trend analysis, competition, and other relevant data should be reasonably disclosed and assessed for their relevance to the valuation.
The site visit is also the time to ask questions that provide clarity in regards to the financial information produced. The financial documents requested with the preliminary document request do not always provide all the data required to prepare a valuation analysis. Appraisers should ask for financial documents that help support the company-specific risk elements identified by the company representative. For example, if there are alleged problems with quality control, pointing to a need for the replacement of aging equipment, an appraiser would ask which documents are produced internally when there is a quality control issue. If an analysis reveals that additional credits are issued as a result of the performance of obsolete machinery, then perhaps management’s projected capital expenditures budget calling for increased future capital expenditures will become more credible.
The management interview and site visit should provide an appraiser with a greater understanding of the entire operation of the business in the words of, and from the perspective of, owners and managers. Management surely knows more about their industry and their operations than the appraiser. A well-orchestrated management interview and site visit will generally provide tangible, useful knowledge that has a meaningful effect on an opinion of value.