The initial stage of any valuation should include
the normalizing of the balance sheet and profit
and loss statement. Some questions to ask in normalizing
earnings would be:
- Have the accounts receivable been appropriately
- Has the work in process been accounted for
and appropriately valued?
- Was the inventory value based on LIFO or FIFO?
- If the lease rate is different from the current
market rate, has that difference been valued?
- Has there been an appropriate deduction for
reasonable owner's compensation?
- Have non-recurring expenses been deleted?
- Have the perquisites been added back to earnings?
(For example, family members on the payroll,
life insurance, disability insurance, personal
legal and accounting expenses, company automobile,
personal credit cards, country club membership,
- Are there loans or debts to shareholders?
- Are there any unrecorded liabilities?
- Should there be an adjustment to after-tax
- Do the financial statements conform to GAAP?
- Is the accounting on a cash basis or accrual
The balance sheet must also be normalized by
considering some of the following:
- Do the underlying assets , such as real estate
or equipment, need to be appraised?
- Is the depreciation appropriate? For example,
if you use accelerated depreciation, then the
value of those assets will be minimized in comparison
to the straight line depreciation method. Should
depreciation be added back in?
- Are some of the assets not necessary to the
operation of the business? For example, a vacation
home, an airplane or a luxury automobile?
- Should LIFO be converted to FIFO in determining
the cost of goods sold?