Excess earnings method for determining enterprise/professional goodwill value withstands appeal in divorce case

The husband was one of nearly 70 partners in an anesthesiology practice who owned an equal number of shares and executed a covenant not to compete. The firm billed its services according to rates published by a trade association (the American Society of Anesthesiologists) and paid its practitioners based on their comparative units of productivity. For the two years prior to divorce, the husband’s productivity ranked between the 75th and 90th percentiles of the association’s rates. At the same time, his earnings exceeded the 90th percentile of anesthesiologists in a national survey of medical compensation (MGMA).

At trial, the wife’s expert used the excess earnings approach, capitalizing the difference between the husband’s actual earnings and the industry standard, to value his interest in the anesthesiology practice at $337,000, before a discount for lack of marketability, and $253,000 after. The trial court adopted his value, and the husband appealed, arguing the expert failed to exclude personal goodwill as required by state law (Indiana). The appellate court disagreed, stating:

We are clearly able to determine from the [evidence] what portion of the aggregate value given by [the expert] was attributable to the husband's personal goodwill, that is, none. [The expert’s] method of calculating the value of the husband's interest in [the practice] excluded the husband's personal goodwill, and left only … enterprise goodwill.

Read the complete digest of Burnett v. Burnett, 2012 Ind. App. Unpub. LEXIS 1477 (Nov. 13, 2012) in the next Business Valuation Update; the district court’s decision will be posted soon at BVLaw.

Alerding was the expert. The Burnett case is unpublished, but it still serves as good instruction on what courts will accept as reliable evidence of valuing the goodwill of professional practices in divorce, particularly in the application of the excess earnings method by the expert—who was none other than James Alerding (Alerding Consulting). Don’t miss “The Excess Earnings Method” on February 14, when Alerding discusses the decision as well as a thorough overview of the method, its many strengths and applications, as well as its particular usefulness in determining the components of goodwill in divorce.