Appraisal Procedures (ref. ASA):

Value Definitions (ref. ASA):

In appraisal practice and procedures, there are three traditional and generally accepted approaches to value: Cost Approach, Sales Comparison Approach, and Income Capitalization Approach.

Cost Approach

The cost approach is a technique that uses the concept of replacement cost as an indicator of market value. The cost approach is based on the principle of substitution. For example, a prudent investor would pay no more for an asset or group of assets than the amount necessary to replace it new. Reproduction cost new establishes the highest amount a prudent investor would pay for an asset. The reproduction cost new is adjusted for loss in value due to physical depreciation, functional, and economic obsolescence.

Physical Depreciation

Physical depreciation refers to a loss in value due to factors such as wear and tear from use and exposure to damaging elements. Physical depreciation is caused, in part, by deterioration that is a result of age, maintenance and intensity of use.

Functional Obsolescence

Functional obsolescence refers to loss in value caused by internal factors such as, excess capacity, inadequacy and technological changes that affect the property itself and its relation with other assets comprising a larger property.

Economic Obsolescence

Economic obsolescence refers to loss in value caused by economic forces external to the property itself including changes in optimum use, legislative enactment’s and changes that affect supply and demand relationships.

Sales Comparison (Market) Approach

The sales comparison approach is a technique which value is estimated based on market prices during actual transactions along with advertised selling prices for similar assets available as of the date of valuation. The process is essentially that of comparison and correlation between the subject asset and similar assets that have been sold. The process provides an indicator of fair market value as removed or orderly liquidation value.

Income Capitalization Approach

The income capitalization approach is applicable to machinery or equipment capable of producing a net income stream on a standalone basis. By using this approach to value, the appraiser measures the present value of the future benefits of property ownership. In general, income streams and the value of the asset upon resale (reversion) are capitalized or converted into a present day, lump sum value. This value, based on the future cash flow that an asset will produce over its useful life, can either be discounted to net present value or capitalized by examining one year of stabilized net operating income. These are the two most generally accepted methods in applying the income approach.

First, a projection is made of the cash flow an asset is expected to generate. This involves the analysis of present financial information along with discussing projected future income and related expense with management and operations personnel. The second step is to convert the cash flow to a present value equivalent through discounting or capitalization rate analysis. The processes use a rate of return that accounts for the time value of money or the rate of return expected by investors and owners.

The market value of an asset is the sum of the discounted cash flow, plus the present residual value or the capitalized one year net earnings. In either method, an analysis of the discount (yield) rate or capitalization rate must be determined through data available in the marketplace.

The strengths and weaknesses of each approach used are weighed in the final and reconciliation analysis. The approach or approaches offering the greatest quantity and quality of supporting data are typically given most consideration and the final estimate of value is correlated.