Valuing a Professional Practice: The Goodwill Question
Where the value of a practice is inseparable from the person who built it, the hardest question is not what it earns. It is how much of that would survive their leaving.
Two kinds of goodwill
Goodwill is the part of a practice's value that is not explained by its tangible assets. In a professional practice it is usually most of the value, and it splits into two components that behave completely differently.
| Enterprise goodwill | Personal goodwill | |
|---|---|---|
| Attaches to | The business itself — systems, location, name, staff, referral infrastructure, recurring client base | The individual — their reputation, skill, relationships and personal following |
| Survives the owner leaving? | Largely yes | Largely no |
| Transferable in a sale? | Yes | Only to the extent it can be transitioned, and usually only with the individual's cooperation |
| Evidence it exists | Clients who return for the practice regardless of practitioner; delegable work; staff continuity | Clients who follow the individual; work that cannot be delegated; reputation concentrated in one name |
The distinction is easy to state and hard to measure, because in most real practices the two are entangled. A twenty-year practice usually has both, and the analysis is about proportion rather than category.
The Arizona position, and what remains open
In Arizona, Mitchell v. Mitchell established that professional goodwill is a community asset, and that this does not depend on the form of the business — sole proprietorship, corporation or partnership alike. The reasoning was that a practice continuing after dissolution carries the same goodwill it had during the marriage, so refusing to treat it as a community asset would not fit Arizona's equitable distribution scheme.
In re Marriage of Walsh, 230 Ariz. 486 (App. 2012), examined how that goodwill is valued. The Court of Appeals reversed a family court ruling that had limited a law firm partner's goodwill to the amount he would receive under a stock redemption agreement — that is, the agreement's buy-out figure was not automatically the measure of the community's interest.
What remains unsettled matters as much as what is settled. Some states — Washington and California among them — distinguish personal goodwill, treating it as not divisible property. It is currently unclear whether Arizona will follow that path. An appraiser who tells you the question is settled is overstating it, and a report that quietly assumes one answer without saying so has hidden its most consequential judgement.
The practical consequence: where the personal/enterprise split could change the outcome, the report identifies both components, explains the basis for the allocation, and makes plain that the legal treatment of the personal component is a question for counsel and the court rather than for the appraiser.
What evidence actually separates the two
The allocation between personal and enterprise goodwill is the most consequential judgement in these engagements, so it has to rest on evidence rather than on a percentage that feels reasonable.
| Evidence | Points toward enterprise | Points toward personal |
|---|---|---|
| Client origination | Clients arrive through the practice name, location, referral contracts or insurance panels | Clients arrive through the individual's reputation and personal network |
| Delegability | Work is routinely performed by associates and staff without client objection | Clients expect and require the principal personally |
| Client retention through prior departures | The practice has retained clients when practitioners left before | Clients have followed departing practitioners before |
| Length and depth of staff | Established team, documented systems, transferable processes | Thin support, undocumented know-how held by one person |
| Marketing | Practice-branded, institutional | Built around one name and personal profile |
| Prior transactions in the sector | Practices of this type demonstrably sell with clients retained | Practices of this type demonstrably do not |
The last row is the strongest evidence available and the least often obtained. Where practices of a given type routinely change hands with their client base intact, that is market evidence of transferable goodwill. Where they do not, asserting a large enterprise component is an uphill argument regardless of how the practice describes itself.
The non-compete question
A covenant not to compete is the mechanism by which personal goodwill becomes transferable. Without one, a buyer purchasing a practice is buying the risk that the seller opens across the street and the clients follow. With one, some part of that risk is contracted away.
| Fact pattern | What it does to the analysis |
|---|---|
| Sale with an enforceable, adequately scoped covenant | Supports treating more of the goodwill as transferable, because the buyer has actually acquired the benefit |
| Sale with no covenant | Transferable goodwill is correspondingly harder to support. A rational buyer prices the risk of the seller returning to the market. |
| Covenant of doubtful enforceability or scope | The report states the assumption made about enforceability and discloses that the conclusion depends on it. Enforceability is a legal question. |
| Dissolution rather than sale — no covenant contemplated | The question is not what a buyer would pay for a covenant, but what the community interest is. Different question, different analysis. |
Where a non-compete is present, its value is not automatically separate from the goodwill. Sometimes it is allocated separately — often for tax reasons in a transaction — and sometimes it is the thing that makes the goodwill saleable at all. The report says which treatment it applied and why, rather than leaving a reader to infer it.
A worked example
Illustrative arithmetic, not a benchmark. Figures invented to show how the allocation moves the divisible amount. Real allocations come from analysis of the specific practice.
| Component | Illustrative figure | Note |
|---|---|---|
| Total practice value | $1,200,000 | Before any goodwill allocation |
| Tangible assets, net | $200,000 | Equipment, leaseholds, working capital |
| Total goodwill | $1,000,000 | The residual |
| Allocated to enterprise goodwill | $400,000 | Systems, staff, location, recurring base |
| Allocated to personal goodwill | $600,000 | Reputation and relationships concentrated in the practitioner |
Where personal goodwill is treated as divisible the community asset is materially larger than where it is not. Because Arizona has not settled that question, the allocation is stated, its basis is explained, and the legal consequence is left where it belongs.
Who orders this, and what it must contain
| Who | Why | What is usually contested |
|---|---|---|
| Divorcing spouse or their counsel | Community interest in the practice | The size of the goodwill, and whether the personal component is divisible |
| Departing partner | Buy-out under an agreement or by negotiation | Whether the agreement's figure is the measure — see Walsh |
| Buyer or seller of a practice | Transaction and allocation | How much goodwill transfers, and what the covenant is worth |
| Court | Contested dissolution or dispute | Whether the allocation is supported by evidence or asserted |
The market approach is the one most often considered and dismissed here, and the dismissal has to be reasoned. Transaction databases carry sales of practices in the same field, but where those transactions bundled a restrictive covenant and a transition period that the subject engagement does not contemplate — a dissolution rather than a sale — the multiples derived from them are answering a different question. That is a reason to set the approach aside, stated as such, rather than a reason to leave it out silently.
Development is governed by USPAP Standard 9, reporting by Standard 10. In a practice valuation, three disclosures carry more weight than usual: the standard of value and its source, the basis for the personal versus enterprise allocation, and any assumption made about the enforceability or existence of a restrictive covenant. All three are load-bearing, and all three are legal-adjacent — which is exactly why the report states its assumption and leaves the legal conclusion to counsel and the court.
Where this sits
This is the analysis underneath a professional practice valuation and draws on the three approaches. It arises most often in marital dissolution and partner disputes, and where an agreement governs the buy-out, in buy-sell agreements. Equipment inside the practice is valued separately — see medical equipment. Counsel may prefer what we do for attorneys.
Jeremy C. Johnson, Arizona Certified Residential Real Estate Appraiser #21358 · AQB Certified USPAP Instructor.
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