Equipment Appraisal Blog | Understanding Machinery Appraisals

As many are witnessing significant increases in residential and commercial real estate market prices and rental rates, due to the economic issues facing the country, the used machinery & equipment sales have experienced similar price adjustments. While appraisers and resellers can research and support these inflated prices based on actual sales, many banks and financial services companies are taking a more conservative approach when it comes to lending practices.

Still stinging from prior market “bubbles” which ultimately popped and led to significant defaults and write-offs in past decades, these equipment and real property borrowing sources are taking a more conservative approach when approving loans and investments using these assets as collateral.

Even before this most recent wave of used property value spikes, lenders would typically approve based on 60-80% of fair market value or 80-100% of an orderly type of liquidation value. This was considered normal business practice and for the most part, continues today. The biggest change we are seeing now is they are not taking every appraisal at face value with an understanding that current market conditions are in certain cases, unprecedented, with price increases at a dramatically high level.

Lending institutions are looking back at previous market levels for similar properties and equipment, and attempting to support a more reasonable value that will hold up over the long term. The biggest concern to owners and buyers looking to borrow or refinance is the lower level of funds approved, requiring a larger out-of-pocket cash down payment on the assets.

It is prudent to keep this information in mind as you look to acquire used machinery & equipment over the next year. While you may have no choice about the price you’re paying for these assets, the lending markets are becoming savvier in their approval practices, which will require more flexibility when settling up with sellers. If possible, try to keep an extra amount of cash on hand available to fill in the gaps.

Whether you work at a conventional bank, leasing company, investment house, or private equity firm, there are several options when it comes to mitigating the risk involved with short and long-term lending. The phrase "collateral" can mean any number of different types of assets that the targeted business has available to pledge as security in a transaction. Depending on the type of company doing the lending or investing, they will identify and independently value the collateral as part of the deal structure.

The following assets are considered the most common collateral:

Tangible Asset Types:

Real Property - Buildings, land, improvements, and certain fixtures

Machinery & Equipment - Typically applied to commercial and industrial business-owned assets. Common examples are construction equipment, trucks, trailers, and machine shops.

Personal Property - Typically identified for individuals and residential properties. Common examples are cash, furniture, household goods, jewelry, and artwork.

Intangible Asset Types: Stocks, bonds, business goodwill, patents, trademarks, customer lists/relationships, established websites, domain names, intellectual property, and trademarks.

From the perspective of conventional banks and leasing companies, tangible assets drive the collateral value assessment when working with businesses or individuals that own a significant amount of real estate and equipment. These organizations understand the overall company value is significantly higher than the sum of the tangible property, however, the ability to “touch and feel” the assets which secure their investment loans and leases brings a higher comfort level.

They are generally in for the long haul with their clients, sticking with them for several years while looking to provide competitive interest rates.

Investment houses, private equity firms, and similar institutions typically take a shorter-term look at the business which creates an opportunity to consider intangible as well as tangible assets when approving and collateralizing transactions. Simply put, overall business value, which combines every asset type into the appraisal equation, is a useful tool for these investors to assess their risk level.

This strategy is logical given the low probability that a significant change in the business will occur when viewing it from a 12-24 month perspective vs. the longer-term bank and leasing company directives.

In summary, collateral is a key component of virtually every investment transaction in the marketplace. Determining the types of assets which will secure these deals depends on the risk profile each company puts into practice. When considering utilizing these types of financial institutions and investment firms, ensure you understand these factors before committing to a business partner.

Accredited and certified appraisers are responsible for certain hours of continuing education to maintain their credentials. As part of this perpetual training and learning experience, there are numerous requirements we adhere to that pertain to each valuation assignment and scope of work effort. Two of these important prerequisites dictate that every report must have a specific use or uses, as well as defined intended users. If the client uses the report for another reason or discloses it to parties unnamed, this is a violation of the engagement terms.

Here is a great example of why this is important to an appraisal assignment.

Potential Future Business Disputes and Litigation Unrelated to the Prior Valuation

Let me preface this by saying there are many instances where an experienced appraiser will be engaged to value businesses, machinery & equipment, personal or real property, as an independent expert, in support of an existing dispute or ongoing litigation. This is one of the primary reasons to engage with an appraiser, to facilitate a settlement, or in support of a trial or arbitration.

There are times when, months or even years later, the client who originally engaged the appraiser for a completely different purpose, such as a sale, purchase, or refinancing, is involved with a future dispute that leads to litigation. Somehow, the old appraisal gets drawn into the case, likely, because the value of certain assets has become a factor in the dispute. Lo and behold, the report is now being thrown around the courts between opposing sides of the case. The appraiser is ultimately dragged into the conflict, unwittingly, and is being asked to present confidential data, and potentially be subpoenaed or testify at a later date.

As long as there are clear statements in the engagement agreement and report regarding the intended purpose and users for the valuation, in addition to a clause addressing client confidentiality, the appraiser is protected from involuntarily being dragged into the proceedings.

The prior client and appraiser need time to directly discuss the case and the reason why the original valuation report might be used. During this discussion, it should be determined who may be involved in engaging the appraiser for what is now considered a new consulting and updated valuation assignment. I’m highlighting this phrase so it is clearly understood, there needs to be a professional discussion between the prior client, attorneys and courts involved, so the appraiser can be comfortable that:

1. There are no potential disclosure issues involved.
2. They are the ones allowing (or disallowing) the prior report to become part of the case.
3. They are entering into a new engagement with the appropriate parties to present any data related to the prior work, begin a new consulting assignment, and/or update the report.

This is the appraiser’s work product, and there are obligations and privileges which need to be recognized by any and all parties now involved with the litigation dispute. Any future work requested should be compensated by the new clients, based on the current rates of the appraiser.

In summary, documentation requirements required by the governing appraisal bodies, such as intended users and report purposes, are important for the appraiser and their clients to understand so any future developments are handled professionally and sensibly.

Image source: Daniel Juřena license

Stories such as The Terminator and Matrix movie franchises depict the dystopian future where artificial intelligence literally takes over the world. This future possibility may be a bit overblown, however, it does make you think about our current reliance on technology for so many products and services we utilize every day.

The current chip shortage issues we face are significantly impacting the automotive, gaming, and server farm industries, to name a few, and while this is primarily due to human error, it brings to mind the fact that, without this technology, we are affected economically and fundamentally, with our inability to live our lives as usual, without immediate access to these modern conveniences.

In the valuation world, when I go into the field on an appraisal assignment and walk the factory floor with plant supervisors working with all kinds of machinery every day, I hear stories pertaining to this topic. Some relate to the loss in revenue given their inability to deliver the same volume of parts they’ve manufactured, which will be included in products that require semiconductor chips. Their customers have delayed production due to this crisis and the trickledown effect reaches these fabricating shops as well.

Other comments I hear are that older machinery built without CNC computerized controls are still operable today after decades of use, while their newer equipment, with all the “bells and whistles” constantly breaks down due to the technology-driven components. While this argument has merit on certain levels, the truth is that CNC machines are much more precise, and producing the quality parts they manufacture today would not be possible without them. Regardless, this old-school mentality with veteran machinists is common, and there is something to be said for a 1950’s Bridgeport mill that still works like a charm and has held its value far longer than any computer ever will.

Getting back to current reality, though, technology has been and continues to be the driving force of the future, and while the semiconductor supply chain crisis may be a relatively short-term blip, it certainly has caught the attention of the entire population given its universal effects.

So before you say “I’ll be back” for the 100th time in your life, remember to try and direct that thought to the semiconductor industry manufacturers, who need all the help they can to bring back some kind of normalcy to our worldwide marketplace.

There will come a time when your business or individual practice will need to appraise your used equipment. You may have a desire to sell and replace with newer machinery, refinance an existing inventory, seek new investors, settle an estate or transfer the assets of the business into a new entity. Depending on the type of equipment you own and operate, the amount of data available to review in the marketplace will range from overwhelming to non-existent

The most difficult step in the process of estimating used equipment value is making sense of the information you uncover, or lack thereof. For commonly resold assets such as construction equipment, trucks, and forklifts, you can find many similar comparisons in the market, however, the range in pricing can vary greatly. On the other hand, if you own a specialized piece of machinery that is customized to your specific operational needs, the resale market will not be the best place to search for information.

Equipment appraisers face these challenges every day, which is an excellent reason to consider engaging with an experienced, accredited valuation expert to assist in this effort. Over time, a seasoned appraiser will have developed sound strategies to reasonably determine value regardless of the type of assets you own. In the meantime, here are a few tips that can help you along the way:

Consider Multiple Sources

It’s not uncommon to see used equipment with the same year, make and model selling for vastly different prices in the marketplace at the same time. This could be due to any number of variables such as condition, hours/mileage, location, and recent refurbishments being completed. Oftentimes it's simply because dealers are testing the waters to see if they can obtain an inflated price given no immediate concern to sell. With all these factors at play, it is difficult to make sense of the varying data.

It’s important to investigate as many distinct sources as you believe reasonable and see if you can determine patterns that will allow you to better value your equipment.

Look at Multiple Perspectives

Given the inconsistent data found in the marketplace, alternate perspectives can bring the valuation process into better focus. Research what you paid for the equipment when you originally purchased it and consider the history of your usage and time since it was acquired. Determine what you believe to be a reasonable useful life for that equipment along with typical levels of depreciation that make sense in the context of your experiences as an owner-operator.

Finally, consider contacting your local equipment vendor to discuss what similar new equipment is selling for and gather their opinions on the current market.

Recognize the Specific Premise of Value You Need to Measure

Appraisers can provide estimates of value at different market levels, and your situation may fall into one or another, as you determine the need to sell. If you are in a hurry to turn your assets into cash, or just don’t have a lot of time to market your equipment, consider an Orderly or Forced Liquidation. If you are selling the assets as part of a larger transaction and the purchaser will be taking over some or all of your operation, then Fair Market Value is realistic, with consideration for applicable installation costs and related expenses to bring the equipment into operation.

In summary, it is always a good idea to consider bringing in an experienced appraiser to help you through this analysis who can develop an independent, unbiased process that will be supported by one or all of these methodologies.