CHAPTER SIX

6. ASSET VALUATION FOR FINANCIAL REPORTING (IVS 300)

6.1. Basics of valuation
Valuation is the process of computing the current value of any asset (item). It is the present
value of the future cash flows it is expected to generate by the asset (item). It makes sense
that you are willing to pay (invest) some amount today to receive future benefits (cash
flows). As a result, the market price of an asset is the amount you must pay today to receive
the cash flows the asset is expected to generate in the future.

Valuations are widely used and relied upon in financial and other markets, whether for:
 Inclusion in financial statements,
 Regulatory compliance
 Support secured lending and
 Transactional activity.

6.2. Overview of International Valuation Standards (IVS)

The International Valuation Standards (IVSs) contain procedures for undertaking valuation
assignments using generally recognized concepts and principles, with supporting guidance to
assist the consistent application of those principles.
The IVSC Standards Board is the body responsible for setting the IVSs. The Board has
autonomy in the development of its agenda and approval of its publications. In developing
the IVSs the Board:
 follows established due process in the development of any new standard or related
pronouncement, including consultation with providers and users of valuation services
and public exposure of all new standards or material alterations to existing standards,
 liaises with other bodies that have a standard-setting function in the financial
markets,
 Conducts outreach activities including round table discussions with invited
constituents and targeted discussions with specific users or user groups. Outreach
activities are meant to engage a large audience and to bring knowledge and expertise

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 on a particular topic to the general public. Outreach activities can take several forms,
such as school presentations, workshops, public talks and lab visits, etc.

The objective of the IVSs is to increase the confidence and trust of users of valuation services
by establishing transparent and consistent valuation procedures. A standard will do one or
more of the following:
 identify or develop globally accepted principles and definitions,
 identify and promulgate procedures for the undertaking of valuation assignments and
the reporting of valuations,
 identify specific matters that require consideration and methods commonly used for
valuing different types of asset or liability,
 identify appropriate valuation procedures for the major purposes for which
valuations are required,

The IVSs contain:

1. Requirements that have to be followed in order to produce a valuation that is
compliant with the standards.
2. Information or guidance that does not direct or mandate any particular course of
action but which is intended to assist the development of better and more consistent
valuation practice or that helps users better understand a valuation on which they
intend to rely.

The IVSs are arranged as follows:

A. The IVS Framework
This serves as a preamble to all the other IVS standards. The IVS Framework sets forth
generally accepted valuation principles and concepts that are to be followed when applying
the other standards. The IVS Framework does not include any procedural requirements.

B. IVS General Standards

These set forth requirements for the conduct of all valuation assignments, except as modified
by an Asset Standard or a Valuation Application. They are designed to be applicable to

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valuations of all types of assets and for any valuation purpose to which the standards are
applied.

C. IVS Asset Standards

The Asset Standards include requirements and a commentary. The requirements set forth
any additions to or modifications of the requirements in the General Standards together with
illustrations of how the principles in the General Standards are generally applied to that class
of asset. The commentary provides background information on the characteristics of each
asset type that influence value and identifies the common valuation approaches and methods
used.

6.3. Valuation approaches

One or more valuation approaches may be used in order to arrive at the valuation defined by
the appropriate basis of value. The three approaches described and defined in IVS
Framework are the main approaches used in valuation. They all are based on the economic
principles of price equilibrium, anticipation of benefits or substitution. Using more than one
valuation approach or method is especially recommended where there are insufficient factual
or observable inputs for a single method to produce a reliable conclusion. The three
approaches described and defined in IVS Framework are:

A. Market Approach
The market approach provides an indication of value by comparing the subject asset with
identical or similar assets for which price information is available. Under this approach the
first step is to consider the prices for transactions of identical or similar assets that have
occurred recently in the market. If few recent transactions have occurred, it may also be
appropriate to consider the prices of identical or similar assets that are listed or offered for
sale provided the relevance of this information is clearly established and critically analyzed.
It may be necessary to adjust the price information from other transactions to reflect any
differences in the terms of the actual transaction and the basis of value and any assumptions
to be adopted in the valuation being undertaken.

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There may also be differences in the legal, economic or physical characteristics of the assets
in other transactions and the asset being valued.

Example: suppose you are in the market to purchase a new apartment. You find a listing for
an apartment in your preferred neighborhood being offered for $200,000. The unit is a 1
bedroom, 1,000 square-foot apartment with 1 bathroom. It is in good structural condition
but requires some minor renovations. Although it is in a desirable neighborhood, its view is
obscured and it does not have an in-suite washing or drying machine.

Although you like the apartment, you feel that the asking price is too high. Since the
apartment has been listed for over a month, you begin to suspect that if you make a fair
offer, the seller might accept it even if it is below their asking price.

To that end, you set about determining the apartment’s fair market value by looking up
samples of similar apartments in the same neighborhood that sold in the last month. You
assemble your findings in a table, as follows:

Comparable Transactions Transaction 1 Transaction 2 Transaction 3 Transaction 4 Transaction 5

Price $250,000 $175,000 $150,000 $315,000 $225,000
Square Feet 900 800 1,100 1,800 1,600
Price Per Square Foot $278 $219 $136 $175 $141
Bedrooms 2 2 1 2 2
Bathrooms 1 1 1 2 1
View? Yes Yes No Yes No
In-Suite Washer&Dryer? Yes No Yes No No
Renovations Required None None Minor None Minor

The market approach relies on data from comparable transactions. Looking at these results,
you begin to draw some general conclusions. To start with, you see that the apartments’
price per SF ranges between $136 and $275, with the higher prices belonging to those with

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more bedrooms and bathrooms, better views, in-suite appliances, and no need for
renovations.

By contrast, the apartment you are seeking to purchase is priced at $200 per SF and has
fewer of these features than even the cheapest priced apartment in your table. This seems to
justify your intuition that the apartment is overpriced. Based on this information, you
decide to make an offer for $150,000. The seller accepts your offer.

B. Income Approach
The income approach provides an indication of value by converting future cash flows to a
single current capital value. This approach considers the income that an asset will generate
over its useful life and indicates value through a capitalization process. Capitalization
involves the conversion of income into a capital sum through the application of an
appropriate discount rate. The income stream may be derived under a contract or contracts,
or be non-contractual.

Methods that fall under the income approach include:

1. income capitalization, where an all-risks or overall capitalization rate is applied to a
representative single period income,
2. discounted cash flow where a discount rate is applied to a series of cash flows for
future periods to discount them to a present value,
3. Various option pricing models.
The income approach can be applied to liabilities by considering the cash flows required to
service a liability until it is discharged.

Example: Assume that you have an asset in which you invest $100 million and that you
expect to generate $12 million per year in after-tax cash flows in perpetuity. Assume further
that the cost of capital on this investment is 10%. The value of this asset can be estimated as
follows:

Value of asset = $12 million/0.10

= $120 million

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C. Cost Approach
The cost approach provides an indication of value using the economic principle that a buyer
will pay no more for an asset than the cost to obtain an asset of equal utility, whether by
purchase or by construction.

This approach is based on the principle that the price that a buyer in the market would pay
for the asset being valued would, unless undue time, inconvenience, risk or other factors are
involved, be not more than the cost to purchase or construct an equivalent asset. Often the
asset being valued will be less attractive than the alternative that could be purchased or
constructed because of age or obsolescence. Where this is the case, adjustments may need to
be made to the cost of the alternative asset depending on the required basis of value.

Example: Let's say that, in trying to formulate a valuation for a property, an appraiser used
comparable to determine that a similar plot of land is worth $35,000. He then uses the
comparative unit method to determine that the cost to rebuild the property would amount to
$50 per square foot for a 2,000 square foot home. At the same time, he used the market
extraction method to determine a depreciation percentage of 25%.

In that case, the valuation calculation would look as follows:

Property value = $35,000 + ($50 X 2,000) - (25% x ($50 x2,000)))

Property value = $35,000 + $100,000 - (25% x $100,000)

Property value = $35,000 + $100,000 - $25,000

Property value = $110,000

Methods of Application
Each of these principal valuation approaches includes different detailed methods of
application. Various methods that are commonly used for different asset classes are discussed
in the Asset Standards.

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Valuation Inputs
Valuation inputs refer to the data and other information that are used in any of the
valuation approaches described in this standard. These inputs may be actual or assumed.
Examples of actual inputs include:
 prices achieved for identical or similar assets,
 actual cash flows generated by the asset,
 The actual cost of identical or similar assets.
Examples of assumed inputs include:
 estimated or projected cash flows,
 the estimated cost of a hypothetical asset,
 Market participants’ perceived attitude to risk.

Greater reliance will normally be placed on actual inputs; however, where these are less
relevant, e.g. where the evidence of actual transactions is dated, historic cash flows are not
indicative of future cash flows or the actual cost information is historic, assumed inputs will
be more relevant.

A valuation will normally be more certain where multiple inputs are available. Where only
limited inputs are available particular caution is required in investigating and verifying the
data. Where the input involves evidence of a transaction, care should be taken to verify
whether the terms of that transaction were in accord with those of the required basis of
value.

The nature and source of the valuation inputs should reflect the basis of value, which in turn
depends on the valuation purpose. For example, various approaches and methods may be
used to indicate market value providing they use market derived data. The market approach
will by definition use market derived inputs. To indicate market value the income approach
should be applied using inputs and assumptions that would be adopted by market
participants. To indicate market value using the cost approach, the cost of an asset of equal
utility and the appropriate depreciation should be determined by analysis of market-based
costs and depreciation.

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The data available and the circumstances relating to the market for the asset being valued
will determine which valuation method or methods are most relevant and appropriate. If
based on appropriately analyzed market derived data each approach or method used should
provide an indication of market value.

Valuation approaches and methods are generally common to many types of valuation.
However, valuation of different types of assets involves different sources of data that must
reflect the market in which the assets are to be valued. For example, the underlying
investment of real estate owned by a company will be valued in the context of the relevant
real estate market in which the real estate trades, whereas the shares of the company itself
will be valued in the context of the market in which the shares trade.

6.4. Valuation report

The final step in the valuation process is communicating the results of the assignment to the
commissioning party and any other intended users. It is essential that the report
communicates the information necessary for proper understanding of the valuation or
valuation review. A report shall not be ambiguous or misleading and shall provide the
intended reader with a clear understanding of the valuation or other advice provided.

To provide comparability, relevance and credibility, the report shall set out a clear and
accurate description of the scope of the assignment, its purpose and intended use and
disclosure of any assumptions, special assumptions, material uncertainty or limiting
conditions that directly affect the valuation.

Report Contents
The purpose of the valuation, the complexity of the asset being valued and the users’
requirements will determine the level of detail appropriate to the valuation report. All
reports shall include reference to the matters listed below.
a) Identification and status of the valuer: The valuer can be an individual or a firm. A
statement confirming that the valuer is in a position to provide an objective and unbiased
valuation and is competent to undertake the valuation assignment shall be included.

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 The report shall include the signature of the individual or firm responsible for the
valuation assignment. If the valuer has obtained material assistance from others in
relation to any aspect of the assignment, the nature of such assistance and the extent of
reliance shall be referenced in the report.
b) Identification of the client and any other intended users: The party commissioning the
valuation assignment shall be identified together with any other parties whom it is
intended may rely on the results of the assignment.
c) Purpose of the valuation: The purpose of the valuation assignment shall be clearly stated.
d) Identification of the asset or liability to be valued: Clarification may be needed to
distinguish between an asset and an interest in or right of use of that asset. If the
valuation is of an asset that is utilized in conjunction with other assets, it will be
necessary to clarify whether those assets are included in the valuation assignment,
excluded but assumed to be available or excluded and assumed not to be available.
e) Basis of value: This shall be appropriate for the purpose. The source of the definition of
any basis of value used shall be cited or the basis explained. Some common valuation
bases are defined and discussed in the IVS Framework.
f) Valuation date: The valuation date may be different from the date on which the valuation
report is issued or the date on which investigations are to be undertaken or completed.
Where appropriate these dates shall be clearly distinguished in the report.
g) Extent of investigation: The extent of the investigations undertaken, including the
limitations on those investigations set out in the scope of work, shall be disclosed in the
report.
h) Nature and source of the information relied upon: The nature and source of any relevant
information relied upon in the valuation process and the extent of any steps taken to
verify that information shall be disclosed. To the extent that information provided by the
commissioning party or another party has not been verified by the valuer, this should be
clearly stated with reference, as appropriate, to any representation from that party.
i) Assumptions and special assumptions: All assumptions and any special assumptions made
shall be clearly stated.

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j) Restrictions on use, distribution or publication: Where it is necessary or desirable to
restrict the use of the valuation or those relying upon it, this shall be stated.
k) Confirmation that the assignment has been undertaken in accordance with the IVS: While
confirmation of conformity with IVS is required, there may be occasions where the
purpose of the valuation assignment requires a departure from the IVS. Any such
departure shall be identified, together with justification for that departure. A departure
would not be justified if it results in a valuation that is misleading.
l) Valuation approach and reasoning: To understand the valuation figure in context, the
report shall make reference to the approach or approaches adopted, the key inputs used
and the principal reasons for the conclusions reached.
m) Amount of the valuation or valuations: This shall be expressed in the applicable currency.
This requirement does not apply to a valuation review if the valuer is not required to
provide their own valuation opinion.
n) Date of the valuation report: The date on which the report is issued shall be included. This
may be different from the valuation date.

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