Assignment: Business Valuations
Review the Statement on Standards for Valuation Services No. 1 and address the following issues:
1) What is the scope of this standard?
2) Describe the types of engagements that can be performed.
3) Describe different valuation methods and approaches.
4) Describe how a valuation report is presented.
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Business Valuations
The statement of standards of valuation services No. 1 was introduced in order to ensure guidance is provided to valuation experts under the American Institute of Certified Public Accountants, Inc. (AICPA). The statement guides valuation analysis in the performance of engagements to develop and report the valuation of a business, interest in a business and an intangible asset. In this analysis the scope of the standard of valuation services No. 1, types of engagements performed, valuation methods and presentation of valuation reports are considered.
Scope of Standards for Valuation Services No.1
The statement provides that valuation analysts will only be guided if they are engaged or are part of an engagement aimed at estimating the value of a business, interest in business, security or an intangible asset. The engagement considered may involve an engagement or part of an engagement such as litigation, tax purposes as well as acquisition. Consequently, this means that the engagement needs to have the value of an interest being estimated. Moreover, in pursuant of the engagement the valuation analysts ought to be aware of any government laws and legislations as well professional standards applicable to a particular valuation engagement for example the code and the Statement on Standards for Consulting Services (SSCS) No. 1, Consulting Services: Definitions and Standards (CS sec. 100), and the extent to which they apply to engagements to estimate value. The aim of this scope is to ensure every valuation analyst complies. Moreover, the valuation analyst needs to apply professional judgement while carrying out his or her duties to ensure suitable value estimation.
The statement requires that valuation analysts to be objectively while carrying out the engagement to avoid conflict of interest. Objectivity ensures the expert imposes an honest, impartial and integral aspects in carrying out the engagement. Also, the valuation expert should meet the independence rule while performing the engagement. Moreover, there is need for an understanding between the analyst and the client who has requested for valuation services.
The statement does not apply to engagements used to determine economic damages. The damages will be assess only if they involve estimation of value. Also, the statement is not applicable for internal use by employers to employees in an organisation.
Types of Engagements
The statement on standards of valuation services no. 1 applies to two types of engagements; valuation engagement and calculation engagement. To begin with a valuation engagement is one that is aimed at establishing a concluding value as it requires the application of more procedures. In this engagement, a valuation analyst is engaged to estimate the value of the subject matter, or the subject interest. The valuation analyst is allowed to use or interpret any valuation techniques that are applicable to the engagement. Eventually after performing the engagement the valuation analyst can estimate the value of the subject matter as a conclusion of value. (AICPA, 2015, Paragraphs .23–.45). The conclusion value obtained can either be a single amount or a range between x and y.
On the other hand, a calculation engagement is aimed at calculating a value. The valuation analyst is allowed to perform a calculation engagement when the client agrees on methods and approaches to be used as well as the extent of the procedures the analyst will use in performing the engagement. Therefore, a calculation engagement is based on a limited scope where the valuation analysts adopts the extent of procedures as required by the client. Also, the analyst always values the engagement within the terms of agreement. In the end, the valuation analyst expresses the results of the engagement as a calculated value which is presented as a range or a single amount (AICPA, 2015, Paragraph. 46).
Valuation Methods and Approaches
A valuation analyst needs to use valuation methods and approaches that are relevant to a specific valuation engagement. There are three approaches to valuation; income approach, asset-based approach and market approach. These approaches are used while estimating the value in a valuation engagement.
Income approach
A valuation analysts bases his or her valuation on the aspects of income. Two methods are adopted under this approach; the capitalisation of benefits method and discounted future benefits method. Capitalisation of benefits method involves nonrecurring revenues, taxes, expected changes, cpitl structure and finance costs. Thus, it entails estimation of value by considering the base case of items relating to income in a particular period. On the other hand the discounted future benefits approach involves consideration of projection assumptions, forecasted revenues as well as the estimation of terminal value (Trugman, 2016).
Asset Based and Cost Approach
Under this approach valuation analyst usually adopts an adjusted net asset method where assets d liabilities are identified, assets and liabilities value and liquidation costs are considered. While using the cost approach, the valuation analyst needs to know the cost of an intangible asset for example the replacement cost. Also, appropriate depreciation and amortisation methods are applied under this approach.
Market Approach
The approach is used to value business ownership, interest in business ownership or security by applying guideline public company method, guideline transaction method and guideline sales of interest in subject matter. In the event of intangible assets uncontrolled transaction methods and comparable profit margin methods are used. The comparable profit margin method involves comparing profit margin earned by the subject matter that owns the entity. Moreover, the relief from royalty method is used under this approach which expresses the percentage of revenue of the subject matter.
Presentation of a Valuation Report
The valuation reports presented either orally or in written form. The valuation analyst expresses the conclusion value or the calculated value of the subject matter to the client. The valuation report is presented in a detailed format which entails the letter of transmittal, table of contents, introduction, sources of information, analysis of the subject entity and related nonfinancial information financial statement or financial information analysis, valuation approaches and methods considered, valuation approaches and methods used, valuation adjustments, non-operating assets, non-operating liabilities, and excess or deficient operating assets (Shapiro, Mackmin, & Sams, 2019). Also, the report entails representation of the valuation analyst, reconciliation of estimates and conclusion of value, qualifications of the valuation analyst as well as appendixes and exhibits. The introduction introduces the subject matter and the extent of the valuation as per the requirements of the client (AICPA, 2015, Paragraph 51). Moreover, the valuation report is based in whether it is a valuation engagement or a calculation engagement.
Conclusion
The statement on standards of valuation services No.1 aims to guide the valuation analysts so as to work within its scope. The two types of engagements are a valuation engagement and a calculation engagement. Both engagements are determined through the income approach, asset-based approach or cost approach and the market approach. A valuation report is presented in the form of a detailed report based on the type of engagement and critically evaluating the value of the subject matter.
References
American Institute of Certified Public Accountants, Inc. (2015). Statement on Standards of valuation services No. 1. Retrieved from https://www.aicpa.org/InterestAreas/ForensicAndValuation/Resources/Standards/DownloadableDocuments/SSVS_Full_Version.pdf
Shapiro, E., Mackmin, D., & Sams, G. (2019). Modern methods of valuation. Estates Gazette.
Trugman. (2016). Understanding business valuation: A practical guide to valuing small to medium sized businesses. John Wiley & Sons.
