Asset Management: Not All Values Are Created Equal
By Thomas E. Pastore CEO & Founder, Sanli Pastore & Hill | October 28, 2008
At the beginning of each valuation assignment, the applicable standard of value must be specified. The standard of value is a definition of the type of value being sought, i.e., fair market value, financial value, or strategic value, to name a few. The standard of value is selected based upon the type of assignment which can vary considerably, e.g., merger/acquisition analysis, estate tax filing, or dissenting shareholder lawsuits. The standard of value then influences the choice of the appropriate valuation methods used to determine the value of a hotel or ownership interest in the hotel. Therefore, the value of a hotel can differ under various circumstances.
The most widely recognized and utilized standard of value is fair market value. Fair market value is defined by the American Society of Appraisers as:
The price at which an asset would change hands between a willing buyer and a willing seller when the former is not under any compulsion to buy and the latter is not under any compulsion to sell, and both parties are able, as well as willing, to trade and are well informed about the asset and the market for such asset.
The Internal Revenue Service's definition is virtually the same as the American Society of Appraisers. Fair market value is typically used in estate and gift tax and employee stock option plan ("ESOP") valuation engagements.
The value of a hotel may also depend on the motivations of specific buyers. Financial buyers have specific investment requirements such as rates of return or income tax considerations, i.e., financial value. These buyers often have an exit strategy to sell their investment at some time in the future. Financial buyers may have the ability to utilize net operating losses to lower future tax liabilities and will factor this into the price they are willing to pay for the acquisition.
Strategic buyers base their valuation on such factors as the benefits from synergies between the acquiring and acquired company. In the hospitality industry, large hotel chains buy existing hotels to increase market share and further develop brands. Strategic buyers are usually companies in the same industry as the acquired company. Thus, the number of strategic buyers for a particular business is typically more limited than the number of financial buyers. A strategic buyer is usually looking at integrating its operations with the purchased business. Thus, a strategic buyer's acquisition price, the strategic value, will be higher than fair market value, because it will incorporate the synergic benefits expected.