Standard of Value Must be Identified Before the Value is Determined
Before a valuation analyst can accurately determine the value of a closely held business, he or she needs to identify the proper standard of value. The term value can mean different things to different people depending on the context. The standard of value can be thought of as being the type of value sought. Without a clear understanding of this standard of value, the conclusion of value could be misleading or have no meaning.
The most widely recognized standard of value is Fair Market Value. Fair Market Value is defined in the Internal Revenue Service’s Revenue Ruling 59-60 as follows:
“…the price at which property would change hands between a willing buyer and a willing seller when the former is not under compulsion to buy and the latter is not under any compulsion to sell, both parties having reasonable knowledge of the relevant facts.”
Another common standard of value is Fair Value. Fair Value has gained attention in recent years due to its applicability for financial reporting purposes. Fair Value is also a common standard of value that is determined by local law or statute, depending on the jurisdiction of the court. The most recent definition of Fair Value is contained in SFAS 157:
“…the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.”
Other standards of value include Intrinsic Value and Investment Value. Intrinsic Value is the value based on a fundamental analysis of the company’s earnings. Intrinsic Value is not applied often in valuation of non-public companies. Investment Value is the value that is particular investor, which reflects the particular attributes of that investor. The Investment Value would be different to each potential investor depending on their outlook and possible synergies.