Value to whom and for what purpose?
Value to whom? Now this one puzzles many a business person. Isn’t value of a business asset a single number? In other words, each asset has ‘the’ value.
Not quite. Consider an example:
A manufacturer of business equipment incurs costs of labor and materials to create a product. Let’s say the manufacturer calculates this as $50,000. Now add the SG&A expenses and the corporate accountant may record the book value at $55,000. Next the equipment is delivered to the distributor who pays $57,000 for the machine. The equipment is offered at a $60,000 price to the customer. However, the actual selling price the customer pays is $58,500.
So what is the real worth of the equipment? It depends on who wants to know and for what purpose the valuation is done. Business appraisers call this concept the premise of value.
Different value for different purposes
The important point is that all these values are correct when used for the intended purpose. The worth of an asset changes depending on who asks the question. So you can say that the value of the equipment in the example lies somewhere between $50,000 and $60,000 depending on who uses the valuation and why.
You may want to know the worth of an asset in order to insure it. But even here the actual number will differ for the manufacturer who ships the product to its distributor versus the customer who insures the machine once it is put in service.
Imagine asking a bank for financing. Again, the lender would see the collateral value differently and offer different amounts to the manufacturer, distributor, or customer.
So when you approach a valuation project, ask yourself these key questions:
- What is the purpose of valuation?
- Who will receive the result?
Incidentally, the central USPAP standard which covers valuations of all types of assets and businesses requires that you clearly state the purpose of appraisal and who will receive the report.