Nima Moktan
Professor Rafei
English-2089
04/06/2014
Valuing Assets is not Simple
If we ask somebody the price and value of a laptop, anybody can answer it right
away very easily even without doing any math, but valuing a business is not an exact
science. For example, in valuing a company, there is no number on the company's
financial statements that tells how much its brand name is worth; this aspect of asset
valuation must be subjective. On the other hand, net profit is an objective measurement
based on the company's income and expense figures so asset valuation may consist of
both subjective and objective measurements. The valuation of various assets can be made
by using different methods. Valuation of fixed assets can be made in different ways.
Some of the common methods for determining an asset's value include comparing it to
similar assets, evaluating its cash flow potential, based on current market price (fair
value), acquisition cost, replacement cost and deprival value. There are a number of
valuation methods, ranging from the simple to the very complex but finding the best
method for a business is challenging and decisions with regard to what valuation
technique should be applied is difficult and in some cases controversial.
Fair value is the practice of measuring assets and liabilities at estimates of their
current value. Fair value accounting has been around and applied under US GAAP for a
long time and its also called market to market accounting because the assets and
liabilities are valued on the financial statements based on the prices and information
available in the market for the asset or liability or a similar market. One managing
director defines fair value as “ the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants at the
measurement date” (Larsen, 2014, p. 235). This definition clarifies that fair value is the
exit price of the asset or liability because it is the selling or transfer price from the
perspective of the reporting entity, not the replacement cost, with adjustments for specific
characteristics. Larsen (2014 ) states, fair value determinations should be always based on
market participant assumptions for orderly transactions (p. 235). I think what he said is
very true because fair value reflects current market participant assumptions about the
future inflows associated with an asset. The concept of willing buyer and willing seller is
generally used to determine fair value. Literally, the fair value of assets is based on the
current market and is not stable. It could change with the current market change, so
sometimes it could be dangerous if the market price changes unpredictably. That’s why
different businesses use different valuation techniques.
There are many other different methods to value assets. According to L.
Pavaloaia (2013), assets valuation can be done using three approaches: sales comparison
approach, the cost approach and the income approach. Sales comparison approach
technique is commonly used in real estate appraisal to appraise lands, buildings and
equipment. This approach compares a subject property’s characteristics with those of
comparable properties, which have recently sold in similar transactions. For example, the
appraiser will select similar sold homes and compare them to your home. They also use
collected data of recently sold properties that are similar to the subject property. Another
common technique to value assets is cost approach. Dumitrescu et al. (2002) relies on
identifying the value of a building identical to the one being appraised. The cost approach
is based on the theory that the estimate of a property’s value can be made by adding the
value of land and depreciated value of improvements. It is pretty similar to sales
comparison approach but the coefficient is applied to the value. The cost of construction
minus depreciation, plus land, therefore is a limit, or at least a metric, of market value.
This method is also commonly use by real estate to value land, buildings and equipment.
The last approach to value assets is income approach which is also known as valuation
approaches. It is particularly common in business appraisal. Income approach is used to
determine the value of an income generating property by deriving a value indication by
conversion of expected benefits like cash flows and reversion into value of property.
Income approach consists of appraising a tangible asset by turning into value a form of
income allocated only to that asset (Pavaloaia, L, 2013, p.78). This approach is
applicable for those properties that generate income like the rental properties, which
include non-owner occupied buildings, houses and duplexes, apartment buildings, etc.
The income from rent that an owner expects from a property is also a part of the value of
that property. This approach is not suitable for purely residential properties that do not
generate any income. The value of any income producing property like office building,
cell tower rental and storage facility can be determined by the income approach. There
are lots of other techniques but these are the most common techniques use by business.
Assets valuation is very important in today’s economic condition. Investor, buyers
and sellers won’t invest a dime and make a business decision to buy or sell any property
without knowing the value. Businesses use different asset valuation techniques based on
their company’s needs. By conducting this research, I found fair value accounting is a
good accounting practice to use based on the current needs of companies and financial
statement users as well as current business factors because it is based on current market
and it’s been in practice for a very long time.
References
Păvăloaia, L. (2013). Valuation of Tangible Assets For Financial Reporting. Young
Economists Journal / Revista Tinerilor Economisti, 10(20), 77-84. Retrieved from
http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=94431164&site
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Larsen, D. L. (2014). Valuing Illiquid and 'Hard to Value' Assets. Journal Of Securities
Operations & Custody, 6(3), 234-239. Retrieved from
http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=95257520&site
=ehost-live
King, A. M. (2009). Determining Fair Value. (cover story). Strategic Finance, 90(7), 2732. Retrieved from King, A. M. (2009). Retrieved from
http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=35943005&site
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Sharma, N. (2012). Intangible Assets : A Study of Valuation Methods. BVIMR
Management Edge, 5(1), 61-69. Retrieved from
http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=70504380&site
=ehost-live
Jackson, M., Pippin, S., & Wong, J. A. (2013). Asset and Business Valuation in Estate
Tax Cases: The Role of the Courts. Journal Of The American Taxation
Association, 35(2), 121-134. Retrieved from
http://search.ebscohost.com/login.aspx?direct=true&db=bth&AN=91711870&site
=ehost-live
Rosenfield, P. (1973). PERIODICALS. Journal Of Accountancy, 135(3), 96-98.
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