Equipment Appraisal Blog | Understanding Machinery Appraisals

Many appraisers, buyers, and sellers involved in the aircraft industry consider the valuation of these assets unique in comparison to the rest of the equipment markets, with many businesses only willing to engage “experts” in this industry to complete the appraisal work. While it is true that the aircraft marketplace has a plethora of companies solely dedicated to working in this industry alone, when it comes to valuation, the methodologies, approaches, and data required to perform effective appraisals are very similar to the rest of the machinery & equipment markets. In fact, the very “uniqueness” in which this industry is viewed, opens the door to any number of independent sources and data points in which to gather the information required to complete a solid valuation.

Specific to aircraft appraisal, it is very common, and generally required, that for any sale, leasing, bank financing, or similar transaction, there be made available from the aircraft owner or broker, a detailed “spec sheet” that provides important data including the airframe time and landings, engine make, model, hours and cycles, avionics, interior specs, maintenance programs, ownership history, recent refurbishments, and related information. This document is above and beyond what an appraiser expects to collect during a valuation for most other types of machinery & equipment and encompasses the key parameters in developing your valuation.

Additional benefits when performing aircraft appraisals include the ability to find any number of third-party sources familiar with the industry, specific market, and make/model aircraft you’re researching, that will openly discuss and provide their opinions on. There are databases available to provide historical sales and estimated values on most types of aircraft that are built on quality information, developed over decades, by industry experts. You can also find plenty of articles written about important topics such as annual operating costs, historical fluctuations in markets, future trends based on technology advances, and any number of related areas.

In many ways, because of the constant global focus and overall significance of the aircraft industry, the amount of data available to consider when completing an appraisal is more abundant than in many other markets. An experienced, accredited equipment appraiser has all the tools available to complete a reliable, supportable aircraft valuation.

While being an “expert” in any one industry can have its advantages, the methodologies and approaches of completing an appraisal assignment are consistent across every business sector. The key components involve the collection and review of data, both specific to the asset you’re valuing, and from a reasonable number of external sources within the marketplace itself, to make the appropriate comparisons and adjustments. In all of these ways, the aircraft industry is essentially one of the most complete markets to perform appraisals in.

In our last post, we discussed the most commonly used value definitions specific to bank financing and equipment leasing. In this installment, we are focusing on internal reasons for obtaining an appraisal, such as accounting, tax, and insurance compliance requirements.

Depending on the industry you work within, certain machinery & equipment can be large and complex, involving significant investments outside of the pure “hard cost” of the assets. These expenses include shipping, construction, installation, custom build-outs, and operator training, simply to get the equipment up and running.

For these reasons, the American Society of Appraisers (ASA) developed a definition of value to consider these costs as part of the overall capitalized value of the machinery. This expanded definition is called Fair Market Value-Installed and is similar to Fair Market Value with certain considerations added.

Here are the two definitions side by side, for comparison:

Fair Market Value (FMV)

Fair Market Value is an opinion expressed in terms of money, at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts, as of a specific date.

Fair Market Value-Installed

Fair Market Value-Installed is an opinion, expressed in terms of money, at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts, independent of earnings generated by the business in which the property is or will be installed, as of a specific date.

The highlighted words in the expanded definition are what allows the appraiser to include expenses, commonly referred to as “soft costs”, as a complement to the actual purchase price of the equipment. These additional investments will add value as part of the overall asset, as long as it remains installed, which is a consideration when valuing for any internal business purpose specific to your company.

Most machinery-intensive industrial manufacturing facilities and large process production plants will see these types of costs associated with their equipment. The requirements necessary to ship large assets, often overseas, add extra foundations to safely install the equipment on the facility floor, the electrical, plumbing, and process piping needed to work with the equipment, and paying the manufacturer representatives for weeks of on-site training, are some of these costs that can be capitalized as part of the overall value of the assets.

Not every business has equipment with high installation costs associated with it, but if yours does, don’t forget to consider these additional investments as part of the overall value when working on internal compliance projects related to accounting, tax, and insurance.

In a recent blog post in early May, we talked about the many reasons a company will need to obtain an updated equipment appraisal to get the most out of a business goal or requirement. One of the primary issues we discussed pertained to traditional bank financing and equipment leasing.

The next step in understanding how these appraisals can work best for your business, we will need to see through the eyes of your bank and leasing company as they determine the right level of value to consider when making investment decisions.

Here are the most commonly utilized values and their American Society of Appraisers (ASA) definitions.

Fair Market Value (FMV)

Fair Market Value is an opinion expressed in terms of money, at which the property would change hands between a willing buyer and a willing seller, neither being under any compulsion to buy or to sell and both having reasonable knowledge of relevant facts, as of a specific date.

Orderly Liquidation Value (OLV)

Orderly Liquidation Value is an opinion of the gross amount, expressed in terms of money, that typically could be realized from a liquidation sale, given a reasonable period of time to find a purchaser (or purchasers), with the seller being compelled to sell on an as-is, where-is basis, as of a specific date.

Forced Liquidation Value (FLV)

Forced Liquidation Value is an opinion of the gross amount, expressed in terms of money, that typically could be realized from a properly advertised and conducted public auction, with the seller being compelled to sell with a sense of immediacy on an as-is, where-is basis, as of a specific date.

When any type of financing or leasing is involved, these parties may independently determine which value they would prefer to weigh, and in many cases, they look at all three. Every private and government-owned (ex.: SBA) financial institution has its own internal policies to abide by. What we most commonly see when appraisals pertain to bank financing is that Orderly Liquidation Value tends to be the primary focus. A lot of banks also have percentage tables they are willing to lend from, such as 70% of Fair Market Value or 80% of Orderly Liquidation, for example.

Equipment leasing companies may take a slightly more aggressive stance on valuing machinery & equipment as they are technically the owners of the assets and may have more extensive experience and knowledge in certain industries. A “sale-leaseback” is a common term where the business purchases your assets and leases them back to you under a monthly rental payment plan. This sale may be completed at Fair Market Value and, to offset their potential investment risk, they might collect a security deposit or similar resource as “additional collateral” in the transaction. Any sale back to the business at the end of the lease term is almost always at Fair Market Value.

In any of these cases, I would suggest having the appraiser estimate both FMV & OLV and try to avoid FLV, as this value is akin to an auction, which is at a lower value level, and doesn’t pertain to an ongoing business where your machinery & equipment is hard at work. And as always, ensure the appraiser you hire is accredited by the ASA.

Image source: FNQ at en.wikipedia license

When you are considering buying, selling, investing in, or financing machinery & equipment, the age of the assets will play an important role in determining the fair market value and ultimately, the price you are willing to pay or accept for it.

Useful Life

The useful life of equipment is generally considered just a guideline that estimates when the asset would need to either retire from service or need refurbishing and reinvestment to prolong its life. Many factors can affect this estimate such as usage, maintenance, technology, and overall manufacturing quality.

Chronological Age

The chronological age of machinery & equipment is simply calculated from the date of its original manufacturing to the effective date you are considering, usually a current date. So, as an example, if a used Caterpillar excavator was originally built in 2011 and you want to purchase it today, the chronological age of that asset would be 10 years.

Effective Age

Using that same example, over the 10 year period from 2011-2021, the specific Caterpillar excavator you’re looking to purchase, sell or finance, will have a certain number of hours logged, will have a specific prior sales history (1 owner or multiple), been under a good or not so good maintenance program each year and possibly had certain major components replaced over that time.

All of these factors will play a part in considering an adjustment to the chronological age which would create a more realistic effective age.

If the excavator was only used 1,000 hours per year, that might be construed as half or even less than normal usage, while being maintained on a daily basis. On the flip side, if the machine had over 20,000 hours on it with no component replacements over the 10 year period, you would take a hard look at what would need to be invested into it to bring the machine into good operating condition and extend its life.

In many industries, you will see certain types of equipment originally manufactured decades ago while still in good operating condition. These machines have likely not been affected by changes in technology and have been well maintained with component parts replaced as needed over their lifetime.

There are also plenty of examples of machinery in heavy usage environments such as mining and aggregate, that well exceed normal operating hours which could have an adverse effect on value. However, as long as these machines are well maintained with components replaced as needed, these assets are durably built and designed to last a long time.

In summary, effective age is an important component to understanding machinery & equipment value. While it is a subjective estimate based on a number of variables, it provides a working guideline to appraising and ultimately understanding what you should be buying and selling these assets for at any given time.

Regardless of the industry you work in or the business you own, there will likely come a time when you need to obtain an updated equipment appraisal as you continue to transact in the marketplace. Whatever future plans you have for your business, it is very likely that an appraisal of your capital assets will be beneficial to the process, and possibly even a requirement.

Here a few of the most common reasons why an updated equipment appraisal will be a valuable resource for you:

Bank Financing & Leasing

The most common instance where an appraisal is beneficial and required by all the parties involved occurs when you look to raise capital to maintain and grow your business. The traditional process is working with banks, leasing companies, and similar financial institutions who will require a review of the company’s assets.

If your business requires machinery & equipment to effectively operate, as most manufacturers and service providers do, an updated appraisal will support the current value of your machinery as part of the loan approval process. These assets may end up being the primary collateral the finance company needs for you to successfully secure the loan you need.

Private Equity Investment

A secondary source your business may need to secure capital is in the form of private investment, in the form of equity, which will allow your business to expand its resources and promote growth.

These investors may want to acquire a stake in your business before laying out cash, which will need to be supported by a valuation of your company and the underlying capital assets. Machinery & equipment items generally support a long useful life which will translate to value retention over time and therefore, these assets will comprise a significant component to the overall business value.

Buying & Selling

If you’re considering buying or selling a business, or distinct machinery & equipment as part of a larger transaction, you will want to consider an appraisal to confirm your assumptions about the value of these assets. The time and tension involved in successfully negotiating a sale is significant enough to have a third-party experienced appraiser provide you with the assurance that your pricing strategies are supported and credible.

Tax, Accounting & Insurance Compliance

Tax, accounting and insurance requirements are numerous when it comes to maintaining compliance with all of these facets of your operation.

Tax assessments and regulations, accounting standards guidelines for capitalizing and depreciating your equipment, and adequate insurance coverage are just some of the boxes you need to check in these important areas. Routinely communicate with your accountants and agents to ensure you are up to date on these requirements and see if an equipment valuation might benefit the process, both long and short term.

In summary, your company’s revenue and income typically fluctuate over time depending on the markets and industries you operate in however, the value of your machinery & equipment will likely remain steady through these periods. Understanding the current value of your machinery & equipment by hiring an accredited, experienced appraiser will benefit your business across multiple fronts and provide you with peace of mind as you go forward into the future.