Dividing Goodwill After Miller v. Miller

It has been a year since the Supreme Court of Georgia addressed the division of goodwill in a professional practice. In Miller v. Miller, 288 Ga. 274 (2010), the Supreme Court provided some clarification regarding dividing goodwill, but also, created some confusion regarding the effect that using the market approach has upon the valuation of the personal goodwill. The court appeared to accept that a key person discount or personal goodwill has already been recognized and adjusted for in the purchase price when a market approach is used.¹ The court first recognized that “[V]aluation is an art rather than a science (that)… requires consideration of proof of value by any techniques or methods which are generally acceptable in the financial community and otherwise admissible in court.” ² After explaining the three principal approaches³ for valuing a business, the court pointed out that there is not a single best approach to valuing a professional association or practice.⁴

In Miller, the trial court had accepted the valuation of Wife’s expert of Husband’s internal medical practice at $331,214 using a combination of the three approaches. Husband argued that the use of the market approach was improper because there was no market for a solo medical practice. The Wife’s expert, however, testified that she used two national databases, and that the use of such databases was a generally accepted method for valuing a professional practice and its goodwill.⁵

The Husband further argued that the trial court erroneously divided “professional goodwill” because it is not a marital asset. The court provided an informative explanation of enterprise or commercial goodwill versus individual or personal goodwill. The court explained that enterprise or commercial goodwill is transferred when an enterprise is bought and sold as an ongoing concern.⁶ Individual or personal goodwill, however, is not transferable when the enterprise is bought and sold, but instead remains with the individual owner.⁷ The court recognized that the majority of states hold that personal goodwill cannot constitute marital property, but that enterprise goodwill can constitute marital property.⁸ The Georgia Supreme Court followed the majority rule and held that enterprise goodwill is included in the valuation of a professional practice as part of marital property. The court considered the Husband’s use of the term “professional goodwill” to be ambiguous, but concluded Husband probably intended the term to mean individual goodwill.⁹ For purposes of the Miller case only, the Georgia Supreme Court assumed that individual goodwill does not constitute marital property in Georgia.¹⁰ The court observed that the trial court had excluded individual goodwill from its valuation of the practice by accepting the valuation of Wife’s expert.¹¹

Wife’s expert testified that a “key man discount” was not applicable to the medical practice because Husband could be replaced by another internal medicine doctor.¹² Wife’s expert further asserted that the fact that some patients may not return was taken into account by use of the market approach and by use of a higher capitalization rate resulting in a lower value.¹³ The court noted that a “key person discount” is one method of quantifying personal goodwill.¹⁴ It is at this point, that the court makes a sweeping statement that most business valuation analysts would probably concede should be qualified or limited. The court, without limitation, states that “[w]hen a market approach is used, ‘the ‘key man’ discount or personal goodwill has already been recognized and adjusted for in the purchase price’ of the comparable practices”¹⁵ This statement, without qualification, could be improperly applied to valuations using a market approach. A “key man discount” could be represented in the market approach and a higher capitalization rate, but the use of the market approach has no indication of the value assigned to covenants created during the sale and transition of the business. In other words, it is very doubtful that the two national databases made any delineation between the values assigned to covenants not to compete and enterprise goodwill. One would certainly expect that the databases would have included sales that were made in conjunction with the exercise of a non-compete. Such covenants not to compete would be reflective of personal or individual goodwill and thus, would have included personal or individual goodwill in the valuation under the market approach.¹⁶

A paper authored by Bernard I. Agin was cited by the court in support of the statements that “[a] key person discount is one method of quantifying goodwill” and that when the market approach is used the key person discount or personal goodwill has already been recognized and adjusted for in the price of the comparables.¹⁷ In speaking with Bernard I. Agin while preparing this paper, he was asked if he felt that the use of the market approach excludes the value that could be assigned to a covenant not to compete, thus, bifurcating personal or individual goodwill from that value. He responded, “no.” He indicated that if questioned, he could clarify the reference cited from his paper, but that he would not stand behind his referenced statement without qualification. It is important to understand that when a purchaser of a business also purchases a covenant not to compete, the purchaser is effectively purchasing some of the personal goodwill from the individual.¹⁸ If all the practices included in the two national databases were sold without covenants not to compete the rationale of Wife’s expert would not be flawed. If, however, covenants not to compete were included with the sales, the market approach would not recognize and adjust for personal goodwill in the purchase price ofthe comparable practices.

In conclusion, we note that the Supreme Court of Georgia recognized that a determination of goodwill is a question of fact and not law.¹⁹ There is no precise formula for the determination.²⁰ The court concluded that the valuation of Husband’s medical practice, including goodwill, was sufficiently supported by probative expert testimony. Since the court concluded that the trial court reasonably approximated the net value of the practice and its goodwill, based on competent evidence and sound methods of valuation, the valuation would not be disturbed. In the future, an opposing party or opposing expert, when presented with the arguments submitted by the Wife and her expert in Miller, should investigate the comparables used in the market approach to determine whether covenants not to compete were included in the purchase price. If covenants not to compete were included and not purchased separately, personal goodwill will not have been recognized and adjusted for in the purchase price of the comparable practices.

Will Geer
Allen F. Harris

1. 288 Ga. at 279, 705 S.E.2d at 844citing Bernard I. Agin, Failure to Understand Asset Types, in Nat. Business Institute, Preventing Critical Financial Mistakes During Divorces (2007)
2. 288 Ga. at 275, 705 S.E.2d 275 quoting Stenecken v. Stencken, 873 A2d 501, 505 (II) (N.J. 2005)
3. The three approaches or methods are the income or capitalized earnings approach, the market approach and the cost approach. 288 Ga. at 275, 705 S.E.2d at 842
4. 288 Ga. at 275, 705 S.E.2d at 842
5. 288 Ga. at 276, 705 S.E.2d at 843 citing Christopher A. Tiso, Present Positions on Professional Goodwill: More Focus or Simply More Hocus Pocus? 20 J. Am. Acad. Matrim. Law. 51 , 65 (III) (D) (2006) and Barth H. Goldberg, Valuation of Divorce Assets, Revised Edition § 8.4
6. 288 Ga. at 278, 705 S.E.2d at 844
7. Id
8. Id
9. Id
10. Id
11. Id
12. Id at 279, 705 S.E.2d at 844
13. Id
14. Id
15. Id at 279, 705 S.E.2d at 844 quoting Agin, supra.
16. See Slater v. Slater, 240 Or. App. 30, 42, 245 P.3d 676 (2010), in which the Oregon Court of Appeals analyzed the effect of a covenant not to compete and followed the majority rule that to the extent a covenant not to compete corresponds to the business’s future earnings capacity attributable to the individual, the value of the covenant is not marital property
17. Id at279, 705 S.E.2d at 844
18. See Slater v. Slater, 240 Or. App. at 42
19. Id
20. Id