Copyright© 2014, BusinessAppraisal.com.  All Rights Reserved.
About Us 5 Reasons You Need a Business Appraisal Business Appraisal - Business Valuation Correlation of Methods Letters of Recommendation Contact Us

CORRELATION OF METHODS

 


It is important to note that under guidelines set by the “The Uniform Standards of Professional Evaluation Practice” (Standards Rule 9-5), the Internal Revenue Service (Revenue Ruling 59-60), as well as most Appraisal societies, the Appraiser is required to use all approaches for which reliable data is available and applicable.  The use of as many approaches and methods within these approaches is useful to the extent that it will establish a range of values for the entity being appraised.


Revenue Ruling 59-60 (in Section 3, “Approach to Valuation”) recognizes the fact that appraising is not an exact science:  “(a) sound Appraisal will be based upon all the relevant facts, but the element of common sense, informed judgment and reasonableness must enter into the process of weighting those facts and determining their aggregate significance.”


Sometimes it will be obvious that the analyst should rely on a single approach, such as methods under the cost approach whereby earnings are insignificant to the value of the assets.  An example of this would be a new enterprise with little or no longevity or profits, where projections would be meaningless.  Another example would be a company that has longevity, but insignificant profits, and would be a candidate for liquidation.  In other cases, it may be apparent that several methods would be appropriate for the final value conclusion.  When this is the case, the Appraiser must look to the real world to determine which method or methods should receive the most weighting.


Service companies can represent a significant problem to the Appraiser in that there are few assets that would give a buyer confidence should the Business someday fail.  In any case, risk is the most important factor to consider in an Appraisal.  As stated earlier, and acknowledged in Revenue Ruling 59-60, value is based on anticipated expectations of the buyer as to future performance.  In other words, what a company did in the past has no significance to its value if the trend is not anticipated in the future.


Although assets play an important role in risk calculations, one must remember that earnings and the anticipation of an increasing income stream are the overriding factor in the purchase of a Business.  The process of elimination and an analysis of methods both suggest that Discretionary Income is clearly the most representative of current market value.