Why Your Book Value of Assets is Probably Incorrect

Companies come in all types and sizes.  They can take the shape of pizza shops, dry cleaners, rental companies, consulting firms, manufacturers, banks, pharmaceutical entities, and many others. But the one thing each of these diverse businesses has in common is the use of fixed assets or personal property that are utilized to manufacture, service or deliver goods to a customer.

Assets can range from office furniture and fixtures, cash registers, ovens, walk-in coolers, presses, machining centers, construction equipment, vehicles, and much more.

“Book Value” Vs. “Market value” Fixed Assets
Fixed assets will need to be valued at some point in their life cycle. Your CPA typically adds a new asset to the books at purchase price and then calculates depreciation of the asset over a fixed period of time. At any point in time, the CPA can provide a “book value” for the asset. The odds of “book value” and “market value” being the same at any point in time is impossible to calculate. If book value and market value are equal, it is purely coincidental.

Book value does not take into consideration market changes. If a company buys a new asset and takes it into their books at purchase price, it may seem logical to claim that the book value represents market value. However, fair or unfair, once an asset is placed into production, it is considered a used piece of equipment.

We’ve all heard that an automobile drops 20 percent as soon as it is driven off the lot. But not all assets drop in value when placed into service. For example, if the item is in demand and the company that manufactures the machine has a nine-month lead time, it is entirely possible, maybe even probable, that the asset in question would be worth more than the purchase price of the asset. Several years ago, there was a shortage of tower cranes worldwide, and people were paying a premium to buy a higher place in line for new cranes.

Depreciation for Assets in a Recession
Depreciation for assets is typically done on a straight-line basis over a set period of time. Over time an asset will drop in value, and it will not necessarily drop the same amount or percentage year after year. Several years ago, the economy as a whole dropped dramatically, and the market for used equipment also experienced a significant drop.

Assets carried on books that had been purchased prior to the drop may have been overstated on company books. Assets purchased during the drop may have increased in value when the economy recovered. Often assets that have been fully depreciated or expensed are overlooked on the books. These assets can oftentimes serve as “found” value in a buy/sell scenario.

The Market for an Asset Determines the Value
The market for an asset determines the value of the asset. In order to comply with the Uniform Standards of Appraisal Practice (USPAP), an appraiser must consider the market approach to value in the valuation process. The appraiser will also consider the cost and income approaches to value. The income approach is rarely utilized with fixed asset and machinery and equipment appraisals. The cost approach is usually limited to special use or newer assets. The market approach is the most reliable method of determining the value for fixed assets and personal property.

Fixed asset appraisers often work with a variety of valuation concepts. Depending on the use of the report and the intended users the appraiser may be tasked with determining value under a Fair Market Value, Fair Market Value-Removed, Fair Market Value-Continued Use, Orderly Liquidation, Forced Liquidation Value, etc.

When an Asset needs to be Appraised
There are numerous times during the life of an asset when it needs to be appraised. One of the more common times is in a buy/sell situation. Either the buyer or seller (or both) may engage an appraiser to determine the fair market value of the assets. Lenders usually require an appraisal if assets are being pledged as collateral. Many companies engage appraisers when they are insuring assets because they want to make sure they are not under or over insured. Fixed asset appraisals can be used to determine value for taxes, estate planning, succession planning, and litigation support and in support of business valuations.

Finding the Right Appraiser
Unlike real estate appraisers, machinery and equipment appraisers are not certified at the state level. This can make finding a qualified appraiser to value assets a challenge. One of the top resources to find a credible appraiser is the American Society of Appraisers (ASA). Another is the Association of Machinery and Equipment Appraisers (AMEA). Each of these groups has strict educational and experience guidelines.

Once you find an appraiser to perform your valuation, ask for their qualification sheet. Make sure the person looking at the assets is qualified. If the company sends out one of their Appraiser Associates, make sure a Senior Appraiser accompanies them. Make sure the appraiser is on a lender’s approved list if the valuation is for financing. Even if the appraiser is not currently on the approved list, ask your lender to add your selection.

It is always prudent to get a few bids when you need fixed assets appraised. Check the qualifications of the low bidder. Stay away from someone that is too low. The last thing you need to deal with is complications on the back-end of the deal because the appraiser made some critical mistakes. Though there is also no reason to overpay for the appraisal. The larger firms with the big names have more overhead.

The next time you are walking through your business or meeting with your advisor, ask if your book value really reflects market value. Then ask, does it need to? If the answer is yes, contact a qualified appraiser.

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