APPENDIX A
International Business Valuation Standards
INTRODUCTION
International business valuation standards are in a stage of evolution. Most efforts to develop international business valuation standards beyond North America are within the context of broader valuation standards, that is, standards that include not only business valuation but also valuation of other types of property, such as real estate and personal property.
INTERNATIONAL VALUATION STANDARDS COUNCIL
By far the oldest and most developed of the international valuation standards movements is the International Valuation Standards Council (IVSC), a nongovernmental organization (NGO) of the United Nations.
The IVSC has been in existence since 1981, under the name of The International Assets Valuation Standards Committee (TIAVSC). The Committee changed its name in 1994 to the International Valuation Standards Committee (IVSC). As demand increased for valuation standards in different sectors and markets, it had become clear to the IVSC that its constitution and structure no longer could provide it with the legitimacy or resources required to meet these new challenges. In January 2007, the IVSC published proposals for a radical restructuring to transform the IVSC from a committee of representatives of its member valuation organizations into an independent body. At this time, the organization's name was changed to the International Valuation Standards Council.
The organization currently has three main bodies:
Valuation Organization
Membership traditionally has been available to one national association per country. However, the Appraisal Institute of the United States, the Appraisal Institute of Canada, the Canadian Institute of Chartered Business Valuators, as well as the American Society of Appraisers (ASAs) are full members.2 At this writing, there are about 72 full organization members. For about five years, the ASA's representative to the IVSC was Vern Blair. Since November 2011, the ASA's representative is Anthony Aaron.
The IVSC business valuation standards are closely aligned with the Uniform Standards of Professional Appraisal Practice (USPAP), which are promulgated by the Appraisal Foundation of the United States.
In 2011, it issued the ninth edition of International Valuation Standards. The major updates in the latest edition include:3
In the ninth edition, the standards are organized as follows:4
Broad Definitions
The IVSC standards define value broadly in this way:
Value is not a fact, but an opinion, of either: a) the most probable price to be paid for an asset in an exchange or, b) the economic benefits of owning an asset. A value in exchange is a hypothetical price and the hypothesis on which the value is estimated is determined by the purpose of the valuation. A value to the owner is an estimate of the benefits that would accrue to a particular party from ownership.
The word “valuation” can be used to refer to the estimated value (the valuation conclusion) or to refer to the preparation of the estimated value (the act of valuing). In these standards, it should generally be clear from the context which meaning is intended. Where there is potential for confusion, or a need to make a clear distinction between the alternative meanings, additional words are used.5
The IVSC standards define market value as:
The estimated amount for which an asset should exchange on the valuation date between a willing buyer and a willing seller in an arm's length transaction, after proper marketing and where the parties had each acted knowledgeably, prudently, and without compulsion.6
The standards define investment value, or worth, as:
The value of an asset to the owner or prospective owner for individual investment or operational objectives. This is an entity-specific basis of value. Although the value of an asset to the owner may be the same as the amount that could be realized from its sales to another party, the basis of value reflects the benefits received by an entity from holding the assets and, therefore, does not necessarily involve a hypothetical exchange. Investment value reflects the circumstances and financial objectives of the entity for which the valuation is being produced. It is often used for measuring investment performance.7
Approaches to Valuation
According to the IVSC standards, the three approaches described and defined in the Framework are the main approaches used in valuation. They all are based on the economic principles of price equilibrium, anticipation of benefits, or substitution:
Market Approach. This comparative approach provides an indication of value by comparing the subject assets with identical or similar assets for which the price information is available. In general, a property being valued (a subject property) is compared with sales of similar properties that have been transacted in the open market. Listings and offerings may also be considered.
Income Approach. This comparative approach provides an indication of value by converting future cash flows to a single current capital value. The Income 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, e.g. the anticipated profit generated from either the use of or holding of the assets. Methods that fall under the Income Approach include: 1) Income Capitalization Method, 2) Discount Cash Flow Method, 3) various Option Pricing Models. In general, the principle of substitution holds that the income stream which produces the highest return commensurate with a given level of risk leads to the most probable value figure.
Cost Approach. This 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.8 In a real estate context, one would normally not be justified in paying more for a given property than the cost of acquiring equivalent land and constructing an alternative structure, unless undue time, inconvenience, and risk are involved. In practice, the approach also involves an estimate of depreciation for older and/or less functional properties where an estimate of cost new unreasonably exceeds the likely price that would be paid for the appraised property.9
In the latest version of International Valuation Standard, the discussion on non-market-based valuations was deleted.
Types of Property
The IVSC recognizes “the customary division of property into six discrete categories:”10
IVS defines a business as any commercial, industrial, service, or investment activity.
The IVSC standards analyze three approaches to business valuations:
There are special attentions when applying the standard of Financial Instruments:
TORONTO VALUATION ACCORD
The Toronto Valuation Accord (TVA) was born in late 2003 to attempt to bring convergence between the superpowers of accounting policy—the International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB)—with respect to valuation for financial reporting.13
Signers of the TVA were:
The activities and concerns of the TVA should be of interest, particularly to those involved in providing services that assist financial reporting requirements.
Mission and Objectives
The TVA states its mission and objectives in this way:
The issue of valuation for financial reporting (VFR) poses a key emerging topic for the valuation profession. Recent events in the accounting profession and in the business world have brought issues of professional independence, measurement of asset value and transparency of reporting to the forefront. Accounting standards in the United States and Canada are expected to converge to a common global standard with the international accounting community, of which a component will be methodology for the reporting of assets. Under the Basel capital accords, the banking industry must account for assets and liabilities on a market basis, which has implications for the valuation profession.
Accordingly, it is important that each organization representing the valuation profession in the United States and Canada, including real property, personal property and business appraisal, participate in a coordinated fashion to ensure a unified response on behalf of valuers and valuation standards. Participation in the Toronto Valuation Accord of October 2003 was a first step in this endeavor. The following is proposed as a plan for continued progress by the organizations and the profession:
1. We recognize that the recent movement of international standards toward convergence and harmonization, and the related emphasis on market (fair) value, increases the responsibilities of valuers in Canada, the United States, and worldwide to participate in the establishment of reporting standards for the benefit of the users of financial reports and the public at large;
2. We agree to work together to develop policies and establish a plan to position the valuation profession as represented by their members, as the professionals of choice in the provision of valuation for financial reporting purposes and related services;
3. We encourage each organization to establish a plan for how that organization will inform and educate its members on valuation for financial reporting issues and will identify a principal contact in each organization who will coordinate with the other organizations to exchange information regarding those issues and the organization's plan.15
Definitions
The IASB states current value as being fair value, which the IASB defines as “the amount for which an asset could be exchanged, or a liability settled, between knowledgeable, willing parties in an arm's length transaction.” The IASB sets forth these three criteria for fair value measurement:
FASB 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” (e.g., other than in a forced, or liquidation, sale). It further states that valuation techniques used to estimate fair value shall emphasize market inputs, including those derived from active markets, regardless of which approach (market, income, cost) is used.
While there is unanimous concurrence on the use of current value financial reporting, within the TVA there is ongoing discussion as to the premise underlying fair value. Some members think that fair value should be abolished and current value should be defined as market value; further, they believe that market value should be premised on in-exchange, reflecting highest and best use. Other members think that fair value as set forth by the accounting superpowers is an acceptable basis (as it has been for years under Accounting Procedures Board 16/17 and currently under FASB 141) and should be based on market value concepts. Market value concepts, as defined and used within TVA, mean that the premise for market value could be expressed as in-exchange, in-use, or liquidation, depending on the facts and circumstances and the owner's or market participants' intent.
Fair Value Measurement
Regardless of whether current value accounting is adopted, measurement of fair value of acquired assets is under scrutiny by the IASB and FASB. IASB criteria were listed in the previous section.
FASB issued an Exposure Draft on fair value measurements on June 23, 2004. Subsequently, there have been comment period reports and two public hearings to discuss the proposals, which have led to a June 2006 post-ballot daft on fair value measurements. FASB favors a hierarchal approach to estimating fair value, which it refers to as “levels”:
Obviously, there is a priority for market inputs if available and reliable and comparable; but there is nothing to preclude valuers from their prior practice of using valuation techniques appropriate to the economic availability of data.
FASB identifies two premises of value that could be utilized in estimating fair value: in-use and in-exchange. Value-in-use is based on an installed machine that will be used in income-producing activities of an entity. Value-in-exchange is contrasted as an installed machine that will be sold to another entity. There is an implication that the intent of the buyer will drive the premise of value. However, to do so, it would be necessary to show that any likely buyer would be expected to behave in a similar manner.
FASB goes further and identifies other premises that might be employed. Orderly liquidation could prevail if there was a requirement to dispose of any assets because of regulatory decrees, for example. Abandonment basis could also be appropriate if products are to be rebranded or trademarks discontinued. FASB presented two alternative approaches regarding using present value of future cash flows in accounting measurements. Called the traditional approach, it is acceptable to utilize a single, best estimate of future cash flows and discount same to present value at a discount rate that reflects the risk involved. Another approach, called the expected cash flow approach, utilizes multiple projections of possible outcomes that can be assigned probabilities and then discounted to present value.
Discount rate treatment utilizing an expected cash flow approach may require reflection of market-based risk premiums in one of two ways. The expected cash flow can be reduced for risk and then discounted at a risk-free rate. Alternatively, the expected cash flows are discounted at a risk-adjusted discount rate.
The recent decisions of FASB and the direction FASB is promoting on the enumerated emerging issues provide us with a clear signal: FASB has recognized that worldwide financial markets are demanding a unified set of financial reporting standards. No longer will a company have to follow U.S. generally accepting accounting principles (GAAP) to list shares in New York and list the same shares in London based on U.K. GAAP or international GAAP.
Another signal of convergence is the change in treatment of in-process research and development; it is no longer allowed to be written off, but must be amortized as required under International Accounting Standards (IAS) 36 and 38. Business combination rules under IAS and FASB are likely to become identical with regard to identification of intangibles separable from goodwill.
More signs of convergence abound as IASB has adopted FASB's definition of a business combination: “a transaction or other event in which an acquirer obtains control of one or more businesses.” Both groups also have converged on the definition of goodwill: “Goodwill is future economic benefits arising from assets that are not individually identified and separately recognized.”16
Conclusion
The North American professional valuation groups are coming together to promote the ability of professional valuers to meet the valuation needs of the new global financial reporting standards. The accounting and regulatory community and valuers themselves must become aware of the changes to come and must study these changes in order to continue and grow in a professional valuation career.
ROYAL INSTITUTE OF CHARTERED SURVEYORS
The Royal Institute of Chartered Surveyors (RICS), based in the United Kingdom, is comprised primarily of real estate appraisers. RICS published its first set of valuation standards in 1974. The purpose of the RICS standards is to provide users of valuation services with confidence that a valuation provided by an RICS-qualified valuer has been undertaken in compliance with the highest professional standards. The standards have evolved to the RICS Appraisal and Valuation Standards, last revised in March 2012.17
RICS defines market value as:
The estimated amount for which an asset or liability should exchange on the valuation date between a willing buyer and a willing seller in an arm's-length transaction after proper marketing and where the parties had each acted knowledgeably, prudently and without compulsion.18
It is the stated goal of RICS to narrow as much as possible the differences between the RICS standard and the International Valuation Standards.
INTERNATIONAL FINANCIAL REPORTING STANDARDS
The International Financial Reporting Standards were previously known as International Accounting Standards (IAS) and are set by the International Accounting Standards Board (IASB). This board works closely with the Financial Accounting Standards Board in the United States. To draw a parallel, the IASB is to the FASB as the International Valuation Standards Committee is to USPAP.
1 International Valuation Standards Council, About the International Valuation Standards Council (IVSC), April 20, 2012 (http://www.ivsc.org/about/index.html).
2 International Valuation Standards Council, Membership, April 20, 2012 (http://www.ivsc.org/members/index.html).
3 International Valuation Standards Council, The International Valuation Standards (IVS), April 20, 2012 (http://www.ivsc.org/standards/index.html).
4 International Valuation Standards Council, Staff Draft—Proposed Revised International Valuation Standards, at 3–4, April 27, 2012 (http://www.ivsc.org/standards/20110214_staff_draft.pdf).
5 International Valuation Standards Council, IVS Framework, April 27, 2012 (http://www.ivsc.org/standards/reg_framework.html).
6 Id., at 8.
7 Id., at 10–11.
8 Id., at 13–14.
9 Id., at 33–34. at 26.
10 International Valuation Standards Council, Staff Draft: Proposed Revised International Valuation Standards, April 2012, at 79 (www.ivsc.org/standards/20110214_staff_draft.pdf).
11 International Valuation Standards Council, International Valuation Standards 2011, April 27, 2012 (www.ivsc.org/standards/reg_200.html).
12 Id.
13 The authors are grateful to Lee Hackett, FASA, executive vice president of American Appraisal Associates, Inc. and one of the Appraisal Foundations representatives to the Toronto Valuation Accord, for his input to this section.
14 International Valuation Standards Council, Toronto Valuation Accord, April 20, 2012 (www.ivsc.org/news/nr/2003/1022nr-toronto.pdf).
15 Toronto Valuation Accord Mission Statement 2003.
16 Lee P. Hackett, Executive Vice President of American Appraisal Associates, Inc., “Valuation for Financial Reporting,” unpublished paper, Milwaukee, WI (2005).
17 RICS Appraisal and Valuation Standards, revised (RICS Business Services Limited, a wholly owned subsidiary of the Royal Institute of Chartered Surveyors, Coventry, UK, January 2005).
Isurv, VS 3.2 Market Value, July 25, 2012 (www.isurv.com/site/scripts/documents_info.aspx?categoryID=1158&documentID=4764&pageNumber).
18 Id., at glossary at 2.