Equipment Appraisal Blog | Understanding Machinery Appraisals

There are instances when tangible asset appraisals are required for effective dates well in the past. In some cases, this time period can be years prior to the actual date of the analysis and report. How do accredited machinery & equipment valuation professionals determine the right approach to these projects, given these retrospective circumstances?

Some of the more common areas where a historic effective date is required would be for the following types of valuations:

Insurance Appraisals: Casualty damages settlements, such as a fire or road accident, which are being litigated or otherwise disputed, are often valued months or years after the initial incident. This is usually because the case has been ongoing for a period of time before the parties determine an equipment valuation is required as part of the dispute.

Property Tax Appeals: Business owners who believe their town or county is basing their property tax assessment on inflated tangible asset values can go through an appeal process in an effort to reduce this annual tax obligation. When determining the overall effect of this tax, the company can reflect back on prior tax years leading up to the current assessment and request an appraisal of their property for multiple periods including these past assessment dates.

Estate Settlement: When a business owner passes away, there is the possibility their estate will need to be valued as part of the overall settlement of property to respective family members and other heirs. This process can become bogged down in the court system and take months or even years to finalize, with the necessity to appraise certain assets to facilitate the settlement. The effective date of these appraisals usually reflects back to the day the individual passed.

Mergers & Acquisitions: In certain cases, when companies require an allocation of value to the respective assets in M&A transactions, the appraisal requirement is not addressed until very late in the process. The due diligence steps involved with larger, more convoluted deals are many, and the appraisal required to reset the accounting of the new entity being acquired may be one of the last. The effective date typically reverts back to the official transaction date.

Regardless of the reason why a retrospective valuation is required, the equipment appraiser should take a consistent approach to adjust for these situations, as the majority of sales comps available today represent current transactions. Reasonable methods to complete this step include utilizing existing databases that may have historic data available to research, valuing older equipment in line with the difference in the time period, and reviewing industry price adjustments between the effective date and the report date. As long as one or more reasonable steps are considered prior to the final estimate of value, a retrospective appraisal is just as reliable and defensible as any other.

Business owners, buyers, sellers, investors, banks, leasing companies, financial institutions, investment firms, business consultants, insurance claimants, attorneys, courts, business appraisers, accountants, tax auditors.

What do all these types of companies, individuals, and institutions have in common? At some point, they will all require an independent valuation of machinery & equipment, personal property, and related capital assets to support their larger transactional needs.

Many of these entities have never worked with an equipment appraiser before and would prefer to hire a company that can facilitate the process and provides an efficient, effective, defendable analysis and report that will hold up to scrutiny. The best way to ensure this is to engage an accredited machinery & equipment appraiser who has years of experience working in any number of different markets and understands their client’s specific needs in the context of the overall transaction at stake.

In order to select the right appraiser, the business or individual responsible for vetting the appraiser should look for the following:

• A current curriculum vitae (CV) that highlights the valuation professional's experience and work history.
• Validation that the appraiser is accredited through the American Society of Appraisers (ASA) with a senior designation and complies with the Uniform Standards of Professional Appraisal Practice (USPAP). Both of these organizations are nationally recognized and require continuing education to maintain their credentials.
• Responsiveness and a professional work ethic from the first point of contact to the completion of the assignment.
• Thoughtful discussions on the scope of work effort involved and assistance in formulating a timeline and game plan to complete the valuation effort in conjunction with the overall transaction.
• A summary of the appraiser’s experience working with attorneys on business dispute cases where litigation support, deposition, and court testimony are involved. This is a critical component to validating the appraiser’s true experience as these seasoned professionals have to formally support and defend their work product in a legal setting.

In summary, this due diligence effort is an important first step in selecting the best appraiser to work alongside you and will create value-added to the overall goal of the business or individual in need of an equipment valuation. Settling for anything less than an experienced, accredited appraisal firm to assist you in these efforts can lead to an undesirable outcome.

For machinery & equipment (M&E) appraisers, there are basically two approaches to value that are ultimately relied upon when completing valuations: the Sales Comparison Approach and the Cost Approach.

Here is a brief description of each:

The Sales Comparison Approach

The Sales Comparison Approach indicates value by analyzing recent sales (or offering prices) of properties that are similar (i.e., comparable) to the subject property. If the comparable data is not identical to the properties being appraised, the selling prices of the comparable items are adjusted to equate them to the characteristics of the properties being appraised.

The reliability of this technique is dependent upon the degree of comparability of each property with the property under appraisal; the time of the sale; the verification of the sale data; and the absence of unusual conditions affecting the sale. This approach focuses on the actions of actual buyers and sellers.

The Cost Approach

The logic behind the Cost Approach is the Principle of Substitution: a prudent buyer will not pay more for a property than the cost of acquiring a substitute property of an equivalent utility.

Using the Cost Approach, the appraiser starts with the current Replacement Cost New of the property being appraised and then deducts for the loss in value caused by physical deterioration, functional obsolescence, and economic obsolescence.

The third approach to value, the Income Approach, is rarely used for M&E appraisals, and I will leave that discussion for another time. The Sales Comparison Approach is also commonly referred to as the “Market Approach”, however, don’t let that trick you into thinking the only time you rely on market data is under this approach. To effectively use the Cost Approach, an appraiser should rely on the marketplace as well, to estimate the variables involved with this approach, including replacement cost new, useful life, depreciation, and salvage value.

Perspective From Both Approaches

Every appraiser has their own process as to how they ultimately utilize the tools available to determine value. It is ultimately an independent, unbiased, subjective opinion, based on the gathering of a reasonable amount of data, which is developed during a research and analysis process.

To that end, from my experience, I have found it beneficial to take components from both approaches, established directly from the marketplace, and create a dual perspective that ultimately forms credibility checks to both, and provides the appraiser with supportable conclusions. Given that comparable sales data can tend to be inconsistent from machine to machine, even from the same sources, this blended approach can create a way to make sense of all the data points and better understand how particular assets should depreciate in the marketplace under normal maintenance and wear and tear guidelines. The use of the Cost Approach in any other way, such as using straight-line depreciation to cover all forms, or trying to develop credible levels of replacement cost and obsolescence by using broad industry data, is simply not reliable or supportable.

In summary, regardless of how much weight an equipment appraiser places on either of these two approaches during a valuation analysis, they should assure their clients that the data collected comes directly from the marketplace. The independent sources that an accredited M&E appraiser can find for virtually any type of asset are out there and available, they just need to do a bit of digging to find them

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.