Information Request FAQ – Part 1: Financial Documents for Valuation Engagements

Have you ever been the recipient of a long financial information request and thought, “do they really need all of these documents?”

As experts in valuations and litigation, we can assure you that compiling a comprehensive information request is one of the most important steps in preparing a quality valuation report. Whether you are producing or receiving a disclosure request, you should be aware of the most requested documents, as well as their intended purpose. That’s why we have prepared an FAQ series to provide you with a deeper understanding of information requests.

This blog is Part 1 of this series, which focuses on 8 specific financial documents required for valuation engagements.

1. Financial Statements

Arguably, the most important documents when preparing a valuation may be the financial statements. Valuators rely on the financial statements as the basis to their calculations. Financial statements are often used as a tool to gain a better understanding of the financial side of the business, including the following:

• The inflows and outflows – revenues and expenses;
• Which assets are used to produce income – inventory, equipment, etc; and
• How the assets are funded – bank loans, equity, etc.

2. Trial Balances and General Ledgers

Trial balances provide a deeper dive into the financials of a business because they contain a list of all the general ledger accounts. While reviewed and audited financial statements typically contain detailed financial notes, this information is often lacking in compilations. For valuation engagements, experts may rely on trial balances to:

• Review a more detailed breakdown of financial statement accounts;
• Analyze different revenue streams, such as interest or rental, that may be non-recurring or redundant to the operations of the business; and
• To determine whether any personal expenses may exist.

In some circumstances, particularly when personal expenses are a primary concern, experts may request general ledgers as they contain a detailed listing of each accounting transaction the business records.

3. Corporate Tax Returns

The most commonly used schedules in the Corporate Tax Return for valuation engagements typically include:

• Schedule 1 – Net Income (Loss) for Income Tax Purposes – These allow experts to identify any differences between income for accounting and tax purposes, including any non-deductible expenses;
• Schedule 8 – Capital Cost Allowance – These allow experts to review historical spending and capital cost allowance claims; and
• Schedule 50 – Shareholder Information – These allow experts to identify the shareholders, particularly when the Shareholders’ Register is not available.

4. Corporate Notices of Assessment or Reassessment

When a tax return is filed with the CRA, a Notice of Assessment (or Reassessment if revisions are made) is issued once it has been assessed by the CRA. Experts review these notices to confirm whether the CRA has agreed with the tax return filing.

5. Payroll Summaries for Shareholders and Related Parties

Shareholders and related parties may receive a salary from a business that is not at fair market value, meaning that it does not reflect their hours, duties, education, or experience. Accordingly, experts request payroll summaries in order to adjust related party wages to fair market value. This is one of the most common adjustments in valuations, as discussed in our recent blog “Understanding Valuation Earnings Adjustments.”

6. Unusual or Non-Recurring Items

Although experts often rely on historical financial information, it is important to remember that a valuation is forward-looking. That’s why it’s important to identify any transactions that are not expected to occur in the future, such as professional fees from a lawsuit or revenues from a discontinued service line.

7. Unreported Transactions

While it’s not permitted, in some industries there may be cash sales or expenses that do not get reported for tax purposes. As a result, experts explicitly ask about unreported transactions to ensure that all the business’ revenues (and expenses) are accounted for.

8. Personal and Discretionary Expenses

In some cases, there are personal or discretionary expenses such as cell phones, vehicles, meals and entertainment expenses, buried in the financials. As a notional purchaser would not need to incur these expenses in order to successfully run the business, it is important that the expert is able to quantify and add back these expenses to one’s income, in order to accurately value the business.

In Part 2 of our series, we will continue our discussion on information requests for valuation engagements, focusing on corporate documents, appraisals, forecasts, and much more!

If you have further questions or are in need of an expert, give the professionals at Davis Martindale a call. We have numerous experiences preparing disclosure requests for various valuation and litigation engagements.