An Overview of Fair Market Value vs. Investment Value
When determining the worth of an asset or company, two phrases might be used: investment value and fair market value. Both phrases are frequently used in financial analysis and may have distinct meanings depending on the context.
Investment value typically refers to a broader range of values derived from various valuation processes. Financial experts who work with accounting standards frequently hear the word “fair” in fair market value. There are several accounting rules that define fair value in both Financial Accounting Standards Board (FASB) principles and International Financial Reporting Standards (IFRS) (IFRS). Fair market value is also significant in real estate because it is used to compute property taxes.
Fair Market Value
In some circumstances, there may be a difference between fair market value and market value, but in most cases, they are nearly identical. Fair market value is defined by FASB, IFRS, and other accounting standards as the value a company may anticipate obtaining for an asset in the open market based on an individual evaluation of the purchasers and price ranges, they would ordinarily have access to. Fair market value is closely related to market value, although it does not always represent daily market value because fair market value is typically determined at different intervals in time rather than daily.
Fair market value allows financial and accounting professionals some leeway in determining it, with market value serving as the starting point. This is what distinguishes fair market value. Analysts are free to change market value based on their forecasts for their own specific market situations, where relevant. In general, an analyst determines the fair market value based on the market of highly educated buyers and sellers with whom it intends to deal. Keep in mind that fair market value normally considers standard selling terms rather than an immediate need to liquidate an item, which might have a negative impact on fair market value for the seller.
Fair Market Value Applications
Businesses’ usage of fair market value can differ based on their accounting approach (e.g., GAAP vs. IFRS). Short-term assets, such as marketable securities, are often accounted for based on their fair market value because there is no additional market for these securities and everyone trading in the market receives the same price. Aside from exchange-traded securities, company accounting standards will provide advice on when and if an asset can be recorded on financial statements at fair market value. Until they are fully depreciated, most assets are accounted for by book value.
Individual asset owners may account for their assets based on their estimated fair market value. Assets are often assessed at their fair market value for measuring personal net worth.
Another important example is real estate holdings. An appraiser is frequently used to determine the fair market value of real estate. Several organizations, like the American Society of Appraisers and the Internal Revenue Service, can develop appraisal standards. A property’s worth will be determined at a base level relative to other properties in proximity in a property assessment, therefore the neighborhood in which a property is located can have a significant impact on the property’s fair market value. Appraisers determine fair market worth for a variety of purposes, including taxation. The annual taxes paid on real estate will be determined by the appraiser’s fair market value.
Investment Value
The investment value of an asset is determined using an impartial valuation process. It is significantly more speculative in nature and will generally depend on the investment that a buyer or seller is looking to make. The worth of an investment is typically determined by several assumptions, including cash flow estimations, tax rates, financing capabilities, business strengths, intangible value, expected return, synergies, and others.
A variety of approaches can be used to determine an investment’s worth. The net present value (NPV) produced from discounted cash flow (DCF) analysis is one of the most prominent approaches used in estimating investment value. Investment value might vary greatly based on the analysis when using this and other approaches such as the multiples approach. Investment value might also vary widely depending on who is calculating it. All parties who use investment value will seek the highest rate of return.
Investment Value Applications
Investment value analysis can vary greatly depending on the underlying assets under consideration and the markets in which they are traded. Stock analysis often employs discounted cash flow methods to determine a stock’s intrinsic value. In the stock market, buy and sell recommendations are based on a stock’s intrinsic worth. The intrinsic value is frequently a type of fundamental study that differs from the market value.
Companies may approach investment value from a different angle. Investment value is used by businesses in a variety of contexts. On the one hand, they may be looking to sell automobiles or machines. When examining a merger or acquisition, investment value may be employed instead. The investment value of a single asset that is not traded on an open exchange will often comprise an appraisal of the firm’s present investment, the asset’s book value, and any possible return the company is pursuing. In contrast, the investment value of acquisition will consider a wide range of variables and assumptions.
Special Considerations: Other Types of Value
There may be different values to be mindful of when managing or assessing various assets.
Book value: Carrying value is another term for book value. The worth of an asset after depreciation is referred to as its book value.
Market value: The worth of an asset in the open market on any day is known as its pure market value. Securities that trade on open market exchanges have a clear daily market value. An actively quoted market that is influenced by the everyday trading of buyers and sellers can usually achieve market value. The market value price is often the same for anyone who chooses to buy or sell a certain asset. Market value and fair market value are usually the same in marketplaces with a defined exchange or valuation structure.