Basis of Value could be defined as a statement of the fundamental measurement principles of a valuation on a specified date. The principle may vary depending on the purpose of the valuation. In this regard, basis of valuation is not the statement of the method used, nor a description of the state of an asset or assets when exchanged. According to the International Valuation Standard Council (IVSC), the basis of valuation is divided into two bases as follows:
- Market value basis of valuation: Market Value is the most commonly required basis. The concept of ‘Market Value’ reflects the collective perceptions and actions of a market and is the basis for valuing most resources in market-based economies.
Market value is the estimated amount for which a property should exchange on the date of valuation between a willing buyer and a willing seller in an arm’s-length transaction after proper marketing wherein the parties had each acted knowledgeably, prudently, and without compulsion. Market Value of Real Estate is a representation of its market-recognised utility rather than its purely physical status. The Utility of assets to a given entity or individual may differ from that which would be recognised by the market or by a particular industry.
- Bases other than market value: Market Value is the most appropriate basis of value for a wide range of applications. However, alternative valuation bases may be appropriate in specific circumstances. It is essential that both the Valuer and users of valuations clearly understand the distinction between Market Value and these other bases of valuation and the effects (if any) that differences between bases may have on the applicability of the valuation.
- Reproduction costis the cost to create a virtual replica of a property using identical or, if identical materials are not available, similar materials.
- Replacement costestimates envision a modern equivalent of comparable utility, employing the design, technology and materials that are currently used in the market. Here, cost estimate for a property may be based on either an estimate of reproduction cost or replacement cost.
- Forced sale value: this depicts a circumstance where a seller is under compulsion to sell and/or a proper marketing period is not available. The price obtainable under these circumstances will not meet the definition of Market Value. Rather the price obtainable will depend on the nature of the pressure on the seller or the reasons why proper marketing cannot be undertaken. The price may also reflect the consequences for the seller of failing to sell within a specified period. The price obtainable in a forced sale typically cannot be predicted, but will reflect the particular circumstances of the forced sale rather than a hypothetical exchange where the seller is acting without compulsion and/or the transaction occurs after a proper marketing period.
- Going concern value: The entity is normally viewed as a going concern, that is, as continuing in operation for the foreseeable future. It is assumed that the entity has neither the intention nor the necessity of liquidation or of curtailing materially the scale of its operations.
- An operating business: Going concern also serves as a valuation premise, under which Valuers and accountants consider a business as an established entity that will continue in operation indefinitely. The premise of a going concern serves as an alternative to the premise of liquidation.
- Investment value or worth: The value of property to a particular investor, or a class of investment or operational objectives. This subjective concept relates specific property to a specific investor, group of investors, or entity with identifiable investment objectives and/or criteria. The investment value, or worth, of a property asset may be higher or lower than the Market Value of the property asset. The term investment value, or worth, should not be confused with the Market Value of an investment property.
- Value in Use: i) The present value of estimated future cash flows expected to arise from the continuing use of an asset and from its disposal at the end of its useful life.
ii) The present value of the future cash flows expected to be derived from an asset or cash-generating unit.
When determining valuation of a company, the standard of value must be clearly defined. That is, it must be clear whether the valuation is based on book value, fair market value, liquidating versus going concern value, investment value, or some other definition of value. Defining the standard of value is important because of adjustments that are necessary under some, but not all, of these standards (Encyclopaedia of Small Business).
