BVR. Free Download. Personal Goodwill: A Survey of Definitions. What It s Worth

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1 BVR What It s Worth Free Download Personal Goodwill: A Survey of Definitions Thank you for visiting Business Valuation Resources, the leading provider of quality acquisition data and analysis. For more information about any of our premier valuation products or services, please call (503) ext. 2 or info@bvresources.com. You may also download our complete product brochure at: For permission requests, please permissions@bvresources.com. Business Valuation Resources, LLC 1000 SW Broadway, Suite 1200 Portland, OR (503) info@bvresources.com

2 Personal Goodwill: A Current Survey of Definitions Adam Manson and David Wood CPA/ABV, CVA Many business valuations are influenced by goodwill, but amazingly, there is no standard definition of personal goodwill. To help correct that problem, we reviewed current valuation textbooks, articles, 1 and some of the leading court cases. After assembling the definitions in the table below, each entry was analyzed according to key words, phrases, and concepts. We believe that by understanding these factors, every business appraiser will be better able to defend their personal goodwill conclusions. Before continuing, we d like to clarify a few points: First, nearly all of the surveyed materials were taken from the family law arena. In family law, goodwill tends to be viewed somewhat differently than in financial accounting. The FASB views goodwill as the amount paid in excess of the fair value of all purchased assets tangible and intangible. Family law courts tend to look at goodwill as the difference between the value of the business and the value of the tangible assets. 2 Given the divergence in these approaches, it may be difficult, if not impossible, to define personal and enterprise goodwill in a way that is acceptable to both. Second, the definitions in the table below offer insight into the concept of personal goodwill, but they do little to identify how it s created. In fairness to the experts cited in the table, it was not necessarily their intent to provide a functional definition. And, third, the definitions below have been taken out of context. Most of the work referred to in our personal goodwill survey is thoughtful and offers great insight into this elusive concept. The profession should be grateful for all of their efforts. Analysts trying to understand personal goodwill would be wise to look behind the definitions in the survey to see what the authors had to say on the subject. With those comments aside, we can say with confidence that all of the authors we ve cited understand the importance of earnings as it relates to the value of personal goodwill. It s also clear that more judges understand the importance; the judges specifically used earnings or cash flow in over half the cases reviewed. 1 Note: Several of the authors have multiple entries in the survey. 2 Jim Alerding pointed out in his November 2009 BV Conference presentation in San Francisco that family law courts take this approach because it is more direct and simpler, but that it would be more correct to value each intangible asset, as in the fair value accounting approach, and then divide the value of each asset into the separate personal and enterprise goodwill components.

3 We Need Your Help Business Valuation Resources and David Wood have agreed to perform an annual review of new textbooks, articles, and major cases that use the term personal goodwill and offer a definition. We will update the survey and make it available on the free download page at BVResources.com. 3 This was our first review. We re sure that we missed someone s definition of personal goodwill, or a case that clearly defines personal goodwill. If you know of a book, article or case that we missed, please contact Adam Manson at adamm@bvresources.com or David Wood at dwood@woodvaluation.com. Thank you. 3

4 Personal Goodwill in Texts Definition Earnings/Cash Flow Consumer Reputation Associated with 1 Attributes 2 Referrals Pratt, S, & Niculita, A. (2008). Valuing a Business, Fifth Edition. McGraw-Hill, page 949. Fishman, J, Pratt, S, & Morrison, William. (2007). Standards of Value. John Wiley & Sons page 202. Trugman, G. (2008). Understanding Business Valuation. American Institute of Certified Public Accountants, Second Edition, page 516, Third Edition, page 541. Professional or personal goodwill may be described as the intangible value attributable solely to the efforts of or reputation of an owner spouse of the subject business. Personal goodwill is the goodwill that adheres to an individual. It consists of personal attributes of a practitioner including relationships, skill, personal reputation, and various other factors. The distinction between professional goodwill (sometimes called personal goodwill) and practice goodwill (sometimes called business or commercial goodwill) is that professional goodwill is the goodwill that is associated primarily with the individual, versus practice goodwill, which is the goodwill associated primarily with the entity. 1 Associated with includes references such as attaches, adheres, relates, or similar references 2 Attributes definition mentions attribute, characteristics, and elements or lists specific attributes.

5 Pratt, S, Reilly, R, & Schweihs, R. (1998). Valuing Small Business and Professional Practices, Third Edition. McGraw-Hill, page 584. Reilly, R, & Schweihs, R. (1999). Valuing Intangible Assets. McGraw-Hill, page 382. Thomas, R, & Gup, B. (2009). The Valuation Handbook. John Wiley & Sons, page 428. Hitchner, James R. (2006). Financial Valuation, Applications and Models, Second Edition, page 824. Kleeman, Robert, R. Alerding, and Benjamin Miller. The Handbook for Divorce Valuations. John Wiley & Sons Inc, Pg. 76. Professional goodwill is the intangible value in the nature of goodwill that is associated primarily with the individual practitioner. The practitioner component [of goodwill] relates to the goodwill created by the reputation and skills of the individual human practitioners that is, the actual physicians, dentists, lawyers, CPAs, and other professionals. Professional goodwill results from the charisma, knowledge, skill, and reputation of a specific practitioner. Personal goodwill is that goodwill that attaches to the persona and the personal efforts of the individual. It is generally considered to be difficult to transfer, if at all. Personal goodwill (also called professional goodwill) is the goodwill associated primarily with the individual practitioner Personal goodwill exists based on the fact that clients or customers come to the individual because of the practitioner s skills, knowledge, reputation, personality, and other factors. There is an implied assumption that if the individual practitioner left to go to another practice, the clients would follow him or her.

6 Totals from Texts Earnings/Cash Flow Consumer Reputation Associated with Attributes Referrals

7 Personal Goodwill in Articles Definition Earnings/Cash Flow Consumer Reputation Associated with Attributes Referrals 1 Niculita, A., McKedy, A., and Linebarger, K. (2009). How to Distinguish Personal Goodwill from Enterprise Goodwill, the Key Person Discount, and Noncompete Agreements. BVR s Guide to Personal vs. Enterprise Goodwill, page 1-49 the common understanding of the concept is that personal goodwill is an asset that generates cash flows to the company that are directly attributable to one or more individuals, and that these cash flows would be lost if those individuals were not present. In simpler terms, it is the goodwill that attaches to the individual, rather than the institution, and it is considered difficult or impossible to transfer (either to another individual or to the business). 2 White, H. (1998). Professional Goodwill: Is It a Settled Question or Is There 'Value' in Discussing It? Journal of the American Academy of Matrimonial Lawyers. It [personal goodwill] is...[the] part of increased earning capacity that results from the reputation, knowledge and skills of individual people, and is nontransferable and unmarketable.

8 3 Gordon, Noah. (2010). Goodwill Valuation in the Courts. BVR s Guide to Personal vs. Enterprise Goodwill, page 2-1. Conversely, personal goodwill consists of a practitioner s personal attributes, including factors such as personal relationships, knowledge, experience, skill, and personal reputation. 4 5 Wood, David. (2007). Goodwill Attributes: Assessing Utility. The Value Examiner. Wood, David. (2007). MUM s the Word : A Formal Method to Allocate Blue Sky Value in Divorce. Business Valuation Update. Alerding, R. James. (2009). Goodwill: Making Measuring a Little Easier in Divorce Cases. BVR s Guide to Personal vs. Enterprise Goodwill, page Personal goodwill is the value of earnings or cash flow directly attributable to the individual s characteristics or attributes. Personal goodwill, sometimes referred to as professional goodwill, is a function of the earnings from repeat business that will patronize the individual as opposed to the business, new consumers who will seek out the individual, and new referrals that will made to the individual. Personal goodwill is that goodwill that attaches to the persona and the personal efforts of the individual. It is generally considered to be difficult, if not impossible, to transfer.

9 6 7 8 Dietrich, Mark O. (2005). Identifying and Measuring Personal Goodwill in a Professional Practice Part 2. The Tax Adviser. Zipp, Alan S. (2009). Personal Goodwill Should be Considered in all Business Valuations. BVR s Guide to Personal vs. Enterprise Goodwill. Fishman, J. (2009). Personal Goodwill vs. Enterprise Goodwill. BVR s Guide to Personal vs. Enterprise Goodwill. Personal goodwill is the asset that generates cash profits of the enterprise that are attributed to the business generating characteristics of the individual and may include any profits that would be lost if the individual was not present. Professional goodwill, also referred to as personal goodwill, is attributable to the individual skill, knowledge, and reputation of the professional. Personal Goodwill. The goodwill associated primarily with an individual. Common attributes associated with personal goodwill include skill, knowledge, reputation, personality, and business relationships. In my view, the issue ultimately revolves around the institutionalization of the individual s reputation and relationships.

10 Yeanoplos, K. & Seigneur, R. Valuing Professional Practices (2009 BVR Teleconference). BVR s Guide to Personal vs. Enterprise Goodwill (2010). Kropiewnicki, Mark. E. (2010). The Goodwill Value of Medical and Dental Practices. BVR s Guide to Personal vs. Enterprise Goodwill. Pratt, Shannon. (2008). Overview of Enterprise and Personal Goodwill. BVR s Guide to Personal vs. Enterprise Goodwill. Fishman, Jay. Entity vs. Personal Goodwill Revisited Teleconference. (2004 BVR Teleconference). BVR s Guide to Personal vs. Enterprise Goodwill (2009). Personal goodwill: The portion of an entity s unidentifiable net assets ( goodwill ) associated with an individual employee. personal goodwill is the personal reputation and unique qualities or characteristics of the doctor(s) in the practice that are inherent to those doctor(s) and to the referrals to those doctor(s)...the separation of personal versus enterprise goodwill depends on whether (or the extent to which) the customer returns because of the individual, or because of an element or elements that belong to the enterprise. Personal goodwill is goodwill associated primarily with an individual and enterprise goodwill is goodwill associated primarily with an enterprise. The existence of personal goodwill is based on the fact that people come to the person. It can be based on some extent to the person s skill, knowledge, reputation, personality. And the implied assumption is that if the person s not there, the clients would go elsewhere.

11 13 Fishman, Jay. "Personal Goodwill vs. Enterprise Goodwill." BVR s Guide to Personal vs. Enterprise Goodwill. (2009): Pg. 1-1 Personal Goodwill. The goodwill associated primarily with an individual. Totals from Articles Earnings/Cash Flow Consumer Reputation Associated with Attributes Referrals

12 Personal Goodwill in Court Opinions Definition Earnings/Cash Flow Consumer Reputation Associated with Attributes Referrals 1 Thompson v. Thompson, 576 So. 2d 267 (Fla. 1991) There is no specific consensus as to a definition of professional goodwill, whether a sole practitioner of any profession can have goodwill, or what method or methods should be used to value professional goodwill. Proof of the existence of goodwill is particularly troublesome in a professional context. This difficulty is a product of the fact that the reputation of the individual practitioner and the goodwill of his enterprise are often inextricably interwoven.

13 2 In re Marriage of Zells (1991). Illinois. The concept of professional good will is the sole asset of the professional. If good will is that aspect of a business which maintains the clientele, then the good will in a professional business is the skill, the expertise, and the reputation of the professional. It is these qualities which would keep patients returning to a doctor and which would make those patients refer others to him. The bottom line is that this is reflected in the doctor's income-generating ability. 3 Desalle v. Gentry (2004). Indiana. personal goodwill is goodwill that is based on the personal attributes of the individual. 3 Yoon v. Yoon (1999). Indiana Supreme Court. In contrast, the goodwill that depends on the continued presence of a particular individual is a personal asset, and any value that attaches to a business as a result of this personal goodwill represents nothing more than the future earning capacity of the individual and is not divisible.

14 Personal goodwill is the goodwill that is attributable to one's personal efforts and characteristics. 4 Yoon v. Yoon (2000). Indiana. Personal goodwill is properly considered only as future earning capacity. any value that attaches to a business as a result of this personal goodwill represents nothing more than the future earning capacity of the individual. 5 Ahern v. Ahern (2008). Maine. The enhanced earning capacity a professional enjoys as a result of her academic credentials, licensure, experience, and reputation is, as previously noted, the essence of personal goodwill. 6 Prahinski v. Prahinski (1990). Maryland. we are of the opinion that the goodwill of a solo law practice is personal to the individual practitioner. Goodwill in such circumstances is not severable from the reputation of the sole practitioner regardless of the contributions made to the practice by the spouse or employees.

15 7 Taylor v. Taylor (1986). Nebraska. if goodwill depends on the continued presence of a particular individual, such goodwill, by definition, is not a marketable asset distinct from the individual. Any value which attaches to the entity solely as a result of personal goodwill represents nothing more than probable future earning capacity 8 Gaydos v. Gaydos (1997). Pennsylvania. The court defined personal goodwill as goodwill which is intrinsically tied to the attributes and/or skills of certain individuals. 9 Guzman v. Guzman (1992). Texas. The Fourteenth Court of Appeals has defined professional goodwill as that which: attaches to the person as a result of the clients' confidence in professional skill or ability; does not possess value separate from the professional; and is extinguished at death, retirement or disablement. Rathmell v. Morrison, 732 S.W.2d 6, 17 (Tex. App.--Houston [14th Dist.] 1987, no writ).

16 10 Russell v. Russell (1990). Virginia. 11 In re the Marriage of Hall (1984). Washington. Goodwill has been defined as the increased value of the business, over and above the value of its assets, that results from the expectation of continued public patronage. The reputation of an individual, as well as his or her future earnings capacity, are not considered to be components of goodwill. It [professional goodwill] is often defined as the expectation of continued public patronage. In re Marriage of Lukens, at 483. Justice Story has more thoroughly defined professional goodwill as: a benefit or advantage "which is acquired by an establishment beyond the mere value of the capital, stock, funds or property employed therein, in consequence of the general public patronage and encouragement, which it receives from constant or habitual customers on account of its local position, or common celebrity, or reputation for skill or affluence, or punctuality, or from other accidental circumstances or necessities, or even from ancient partialities or prejudices." 12 May v. May (2003). West Virginia. [P]ersonal goodwill is associated with the individuals. It is that part of increased earning capacity that results from the reputation, knowledge and skills of individual people. Accordingly, the goodwill

17 of a service business, such as a professional practice, consists largely of personal goodwill. Personal goodwill is a personal asset that depends on the continued presence of a particular individual and may be attributed to the individual owner's personal skill, training or reputation. Totals from Cases Earnings/Cash Flow Consumer Reputation Associated with Attributes Referrals