Finance - Chapter 20 PDF

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Finance: Chapter 20 Valuations - Tangible and Intangible Assets Study online at quizlet.com/_5m3rd4 1.

Valuations - Tangible and Intangible Assets

Replacement cost approach: NO reliable comparable market data & the asset DOES NOT generate cash flows Market based approach: Reliable comparable market data Quoted Market Price: Active market Comparable transactions approach: NO active market Income based approach: NO reliable comparable and market data & the asset generate cash flows Discounted/Capitalized cash flows: depends on info Discounted/capitalized earnings: depends on info

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Valuations - Tangible and Intangible assets

Free cash flows are equal to operating after-tax cash flows (revenue less costs less income taxes) less investments in capital assets and working capital.

Income Based Approaches: Discounted/capitalized cash flow approach - Intangible Assets

Free to be paid to S/H, and Bondholders without impacting the entity's value This approach is useful in determining the value of intangible assets where cash flows with and without the use of the asset can be measured. Ex: NCA, franchissees, processes, and tech

Under Incremntal cash flow, what is "free cash flows"? 3.

Valuations - Tangible and Intangible assets Income Based Approaches: Discounted/capitalized cash flow approach - Intangible Assets

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- Relief From Royalty Approach: estimates the total royalty payments that would need to be made over the asset's life by a hypothetical licensee to a hypothetical licensor. - Adjusted for tax and discount to PV using after tax rate of return - To identify appropriate royalty rate: need to know the type and nature, exclusivity. Ex: patents, copyright, brand names

What are the 2 approaches under this method?

- Incremental cash flow approach: comparing the forecast cash flows that would be earned by a business using the intangible asset with those that would be earned by a business that does not use the asset (with or without method)

Valuations - Tangible and Intangible assets

Annual discretionary after-tax cash flows are forecast and then discounted to arrive at a value for the tangible asset.

Income Based Approaches: Discounted/capitalized cash flow approach - Tangible Assets

Determine future cash flows: - revenue earned from use of the tangible asset - direct costs required to maintain and operate the asset - remaining years of useful life of the asset - entity income tax rate - appropriate after tax discount rate

How is this approach measured?

*CAP RATE IS USED FOR ASSETS WHERE CASH FLOWS ARE STABLE AND THE ASSET HAS AN INDEFINITE LIFE. other cases, discounted cash flow approach is used* 5.

Valuations - Tangible and Intangible assets Income Based Approaches: Discounted/capitalized cash flow approach - Tangible Assets What is the definition?

the value of the asset is determined as the discounted present value of future incremental discretionary cash flows specifically related to the asset. The discount rate reflects the investor's required rate of return.

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Valuations - Tangible and The excess earnings approach determines the value of an intangible asset as the present value of the earnings attributable to the intangible asset after excluding the proportion of the earnings that are Intangible assets attributable to other assets (that is, contributory assets) through contributory asset charges (also known as economic rent). Income Based ApproachesAny earnings leftover "in excess" are assumed to result from intangible asset being value. Then, it's Discounted/capitalized discounting using an appropritate discount rate. earnings Intangible Assets What is the excess earnings approach to this method?

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Valuations - Tangible and he requirement to identify the other assets that generate earnings and determine the separate return required on each of these assets. Intangible assets Income Based ApproachesDiscounted/capitalized earnings Intangible Assets What is the limitation to this apprroach?

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Valuations - Tangible and It is based on expected future earnings rather than cash flows. Future earnings are converted to PV using an appropriate discount rate reflecting the investors' required rate of return. Intangible assets Income Based ApproachesDiscounted/capitalized earnings Intangible Assets What is this approach based on?

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Valuations - Tangible and it is not possible to separately measure the earnings from the intangible asset but it is reasonable to assume that the intangible asset causes total earnings to increase. It is often applied to value customer Intangible assets relationships, brands, in-process research and development, licences, and proprietary technology. Income Based ApproachesDiscounted/capitalized earnings Intangible Assets When is this approach used?

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Valuations - Tangible and Intangible assets

Valuations are calculated after tax basis except for real estate.

Income Based ApproachesDiscounted/capitalized earnings Tangible Assets How is it typically calculated - after or before tax? 11.

Valuations - Tangible and Intangible assets

1. Estimate the annual revenue or rental income to be received. 2. Adjust for vacancies (if rental income) and bad debts to determine the net revenue. 3. Deduct annual operating costs, such as maintenance, utilities, and property taxes.

Income Based ApproachesDiscounted/capitalized earnings Tangible Assets How is the annual net operating income determined? 12.

Valuations - Tangible and Intangible assets

PV of estimated earnings (net operating income) is used to determine the value of the tangible assets.

Income Based ApproachesDiscounted/capitalized earnings Tangible Assets How is this approach used? 13.

Valuations - Tangible and Intangible assets Income Based ApproachesDiscounted/capitalized earnings Tangible Assets How to determine asset value?

One of the following methods is employed: If it is assumed that the asset has an indefinite life, with stable operating income, apply a capitalization rate (which reflects the risk and terminal growth rate at the time of the valuation) to an estimate of annual net adjusted operating income. Real property is often assumed to have an indefinite life. If the property is assumed to have a finite life, prepare a forecast of adjusted earnings for a future period and then apply a discount rate to determine the discounted present value of the forecasted net operating income. If an asset has an indefinite life, but the operating income is volatile, then a forecast of adjusted earnings is prepared for the volatile period that is discounted. Once stability is achieved, a capitalization rate can be used for the remaining periods.

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Valuations - Tangible and Intangible assets

Tangible assets (property, lease income realtes, operating costs) are used to determine either income or cash flows. A value in use can also be calculated if the equipment generates measurable cash flow

Income Based Approaches

Intangible assets: uses discounted future income streams expected to be generated by the owner's use of the asset

How is tangible and intangible assets measured using this appraoch? 15.

Valuations - Tangible and Intangible assets Income Based Approaches

- alternative rates of return - economic conditions - nature and condition of industry - pre tax ora fter tax basis - nominal or real rates

How to determine the discount rate? 16.

Valuations - Tangible and Intangible assets Income Based Approaches: Market Based Approaches

Most reliable approach when adequate and reliable info for similar or identical assets are available - best for non-customized equipment. brand name equipment is valued and similar or identical assets are available for benchmarking

What is the benefit? 17.

Valuations - Tangible and Intangible assets Income Based Approaches: Market Based Approaches

If there are very few or no transactions involving identical or sufficiently similar assets for which price information is available (for example, highly complex and customized equipment), use of a marketbased approach may not be appropriate market only has limited number of transactions and details of those transactions may be incomplete.

What is the drawback/limitation? 18.

Valuations - Tangible and Intangible assets

Properties are examined for difference from and similarities to the property being valued. Factors include size, location, age, access

Income Based Approaches: Market Based Approaches

Selling price of comparison properties are adjusted as appropriate to determine a value for the subject asset.

What is the measurement for land and building? 19.

Valuations - Tangible and Intangible assets Income Based Approaches: Market Based Approaches What is the measurement for machinery and equipment

Use data on recent sale transactions from new and used equipment dealers. The data on recent sales can then be analyzed to determine whether the comparison assets are identical or similar tot he asset being value Additional costs needed to get the machinery and equipment to location and in the condition for intended use needs to be added to market price

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Valuations - Tangible and Intangible assets Income Based Approaches: Market Based Approaches

Market value is estimated using the comparable transactions approach Transactions are reviewed to assess the similarity of assets in the market to the asset being valued, and market prices are adjusted as appropriate for any inconsistencies.

What is the measurement when asset is not actively traded? 21.

Valuations - Tangible and Intangible assets

A general way of determining the value of an asset by referring to selling prices for identical or similar assets.

Income Based Approaches: Market Based Approaches When is this approach used? 22.

Valuations - Tangible and Intangible assets

- The ability to identify appropriate earnings or cash flows that are directly related to the asset being valued.

Income Based Approaches

- Difficult to identify an appropriate discount rate or capitalization rate.

What are some limitations? 23.

Valuations - Tangible and Intangible assets

- Incremental cash flows or earnings can be identified and related to the specific tangible or intangible asset being value

Income Based Approaches What is the benefit of using this approach? 24.

Valuations - Tangible and Intangible assets Income Based Approaches

If the asset is expected to generate or is already generating cash flows. This approach to be used depends on whether the remaining useful life ot eh asset is finite or indefinite

When should this approach be used? 25.

Valuations - Tangible and Intangible assets Replacement cost approach How is this measured?

only use CURRENT COSTS (not historical costs) b/c changes that might have occured over time, such as changes in material and labour costs

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Valuations - Tangible and Land is measured separately from using --> uses market based approach Intangible assets Building: replacement cost is determined by estimating the total costs required to construct it 1) Basic construction price per square foot: an all in construction price is estimated by independent firms Replacement cost or contractors. Estimate varies depending on the nature and extent of desired features including quality approach - measure for of finishings land and building How is land and building measured?

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2) Comparison of actual construction costs: costs to build a similar building by a contractor in the same area are used to estimate construction costs

Valuations - Tangible and - Readily available for tangible assets - Best for valuation of highly specialized equipment and manufacturing plants for which there are no Intangible assets comparable market transactions - FLOOR VALUE Ex: telecommunication infrastructure , or chemical plant Replacement cost approach What are the benefits of using this approach?

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- used mainly for internally generated intangible assets that have no identifiable income streams b/c of subjectivity in determining adjustments for obsolescence to reflect the remaining service life of intangible asset compared to new replacement Ex: software programs, R and D

Valuations - Tangible and - direct materials and direct labour Intangible assets - operating and administrative OH - Indirect costs: cost of consultants, marketing research, legal, registration Replacement cost - Adjustments for obsolescence approach Physical depreciation due to wear and tear- time, weather What are the following Functional or technological obsolescence - loss of value due to the types of current costs? presence or lack of new technological advanced. Ex: not using the building to its fullest capacity Economic Obsolescence due to external events and conditions evidenced by a lower than required rate of return on use of the asset Ex: decline in property value in a municipality - Opportunity costs related to an investment in time or the costs of delaying the development - Benefit from tax savings due to deductible expense

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Valuations - Tangible and - rarely does the cost to create a tangible or intangible asset equal its economic benefit to the owner. Intangible assets - May not fully reflect the future economic benefits to be derived from the asset's future use or sale. Replacement cost approach What are the limitations of using this approach?

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Valuations - Tangible and Intangible assets

The value of a tangible or intangible asset is the cost of replacing it with an asset of similar or identical service capacity.

Replacement cost approach

A purchaser would not pay more for an asset than the cost to replace or recreate it

What is the purpose of this approach? 31.

Valuations - Tangible and Intangible Assets

- Replacement cost approach (variation of an asset-based approach - Income Based Approach - Market Based Approach

What are the approaches used? 32.

Valuations - Tangible and Intangible Assets What are the reasons for tangible and intangible asset valuation?

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Valuations - Tangible and Intangible Assets

- lenders using the asset for security and requiring a market value to determine the amount of funds to advance - testing for impairment - determining values for investment properties measured using the FV model for F/S reporting purposes - assessing insurance claims - determining a selling or purchase price for an individual asset - assessing economic damage related to infringements or litigation - determining a value for assets contributed in a joint arrangement - assessing value of assets on a liquidation or breakup Represents the value based on any market participant using the asset for a purpose that would provide its greatest value

What is the definition of IFRS 13: highest and best use for an asset "must be physically possible, legally permissible, and financially "highest and best use feasible." value" Ex: If the land has been zoned for residential use and condos are being built on that land, the highest and best use of the land might be its value as vacant property. The costs required to remove the parking lot and create a vacant property would have to be considered in the valuation 34.

Valuations - Tangible and Intangible Assets

The net proceeds received by an owner for an asset as a result of a voluntary liquidation or reorganization or a business required by creditors.

What is the definition of Proceeds received for the disposal of an asset or group of assets are net of any direct and indirect disposal costs "liquidation value"? 35.

Valuations - Tangible and Intangible Assets

Represents the value of the asset to an organization, assuming an asset continues to be used in its current capacity and function.

What is the definition of Ex: land used as parking lot "value in use"?...