In contending with COVID 19 and other events such as the West Coast wildfires, or flooding in the Southeast US, many of our clients are examining their fixed assets to develop strategies to maximize value and mitigate risk. In working with them in examining their fixed assets, we always start with “Intended Use”.
Fixed assets represent a significant portion of an enterprises asset base. Most organizations have reasonable estimates of the values or costs of their fixed assets but there are a variety of reasons why an organization may need an external third party valuation by an accredited firm. In this article, we cover seven of the main Intended Uses for fixed asset valuations.
Considering the increasing cost of insurance coverage, it is wise to obtain a Cost Estimate Report (insurance appraisal). This will assist with ensuring the coverage is adequate, and that you are not over insured. Whether an organization is renewing their current insurance policy or seeking a new insurance provider, they must provide an accurate statement of their insurable fixed assets. Although trended historical costs, internal estimates and supplier quotations may seem to be adequate, they often are not. A formal valuation of the organization’s insurable fixed assets is generally recommended every three (3) to five (5) years depending on the amount of construction material and labour cost changes over that period. In the interim years, Suncorp has developed a composite index with which we can provide desktop updates.
The need for an accurate statement of fixed asset values in Financial Statements may be driven by a number of circumstances from compliance to accounting standards to business combinations. For example, the Public Sector Accounting Board (PSAB) revised section PS 3150 of the CICA Public Sector Accounting Handbook: “Reporting of Tangible Capital Assets.” As a result, local governments are required to record capital expenditures as capital assets and amortize them over their useful life. The goal of this standard change was to render financial reports that are more current, accurate and comprehensible – hence more useful to legislators, oversight bodies, creditors and the general public. Another change in accounting was when IFRS replaced GAAP for publicly accountable enterprises and government business enterprises. For Property, Plant and Equipment, IAS 16 prescribes accounting treatment for PPE. Relative to business combinations, the recognition and measurement of acquired fixed assets can be challenging. IFRS 3 Business Combinations outlines the accounting when an acquirer obtains control of a business (e.g. an acquisition or merger). Such business combinations are accounted for using the ‘acquisition method’, which generally requires assets acquired and liabilities assumed to be measured at their fair values at the acquisition date.
Changing economic conditions, uncertain market changes, or shifts in collateral values can cause both lenders and borrowers to reconsider their financial position. In addition, asset-based lending is a key tool for business sustainability and growth when it comes to managing cash and opportunities for expansion. Valuations of the fixed assets are typically required on an Orderly or Forced Liquidation basis depending on the circumstances. Occasionally lenders may accept Fair Market Value-Continued Use as an appropriate premise if an organization’s earnings support the fixed asset valuation.
Asset Control and Management
For organizations both large and small, there is a need to monitor fixed assets in terms of their age, condition and expected dates of replacement. A formal inspection and inventory are typically part of fixed asset valuations. The detailed information provided in valuations can be used to assist internal staff with the development of a formal asset management plan or the need to hire additional consultants to complete formal condition assessment or other studies.
Although each of the intended uses above were discussed independently, it is often more cost-effective to complete fixed valuations for multiple uses at the same time. This is because many of the same tasks such as inspections and inventories need to be completed regardless of the reason for the report. Additionally, values that are developed for one purpose (i.e. Reproduction Cost for insurance purposes) may be required to develop values for other purposes (i.e. Fair Market Value for purchase price allocation).
In conclusion, given the wide variety of uses it is important in requesting a fixed asset valuation to clearly communicate what the intended use of the valuation is and to also advise if there are any secondary purposes that may be able to be incorporated into the valuation service provided. This will ensure that you receive the correct valuation for your use and users.
Contact Suncorp today for all your valuations needs.
As an essential service supporting insurance, finance, accounting and litigation we have continued to work with our clients to mitigate the risk of COVID 19 for our appraisal and risk management teams in conducting inspections. Ergo, we have been able to advance appraisal and risk management engagements so our client’s applications for insurance, financing, or other purposes can proceed without delay.
As we have been planning our engagements, we are contending with travel restrictions which have forced us to look at travel routes and strategic use of our staffing. As we did this, we started at looking at all the countries we have been pleased to work in the last few years. As the map below depicts, we truly have a global reach and this continues today as we plan current assignments in countries such as Lithuania, Poland, Indonesia, Brazil, Mexico, Australia and all over North America.
Thanks to you, our valued clients, we have been pleased to expand our North American network of offices, while bringing on appraisers based in Europe and South America to better serve your needs. At this time we wanted to thank you for the continued trust in our services and appreciate your patience as we develop processes (such as conducting inspections at maintenance shutdowns or off peak hours) to keep your organization’s and our appraisal teams safe!
As we are deemed an essential service in supporting the banking and insurance sectors, we are still progressing with the completion of appraisals and risk management reporting. We have had to alter our inspection protocols to ensure the safety of our clients and staff, inclusive of having all of our appraisal/risk management staff working remotely. One of the questions that our clients have been asking is our thoughts on values post COVID.
There are so many factors in that single question, here are some of the factors we will be examining post COVID:
• Cost of money, with prime interest rates in North America being nearly zero, will banking institutions lower their lending rates, thereby increasing “cheap” capital for investment and recovery activity;
• How long will “cheap” capital be available, if the recovery period is accelerated, cost of funds may go up;
• What types of government stimulus programs will there be, which, in turn, will affect construction activity and potentially impact the cost of construction;
• Changes in demand, will remote working and the prolonged need for physical distancing change the demand for real estate which would impact market values and potentially insurable values;
• Will we continue to focus on climate change initiatives that mean more “Green” buildings, will the potential changes in demand and the drive for innovation make these buildings more affordable;
• Will oil prices and demand continue to sag, which in turn can affect the demand and values of “yellow iron” and other machinery?
In looking at these factors, we will look to examine other Black Swan events. Since 1997, we can look at 9 such events (1):
1997 – Asian Financial Crisis
2000 – The Dot-Com Crash
2001 – 9/11
2008 – Global Financial Meltdown
2009 – European Sovereign Debt Crisis
2011 – Fukushima Nuclear Disaster
2014 – Crude Oil Crisis
2015 – Black Monday China
2016 – Brexit
The current economic malaise is due to a non-economic event such as 9/11, the 2008 Global Financial Meltdown was due an economic event (bad credit, high debt loads). However, events like the 2008 Global Financial Meltdown provide us context for a recovery period. Running up to 2008 we saw a “complacency that emanated from years of stable growth, low inflation & high employment rates in the US which brought financiers to lend recklessly”. (1)
In 2020, we had a similar scenario, stability of growth, lower inflation and high rates of employment in the United States. We were seeing the impact in our appraisals as best illustrated by the following graphs:
Relative to insurable cost values on a generic basis:
Relative to market values for commercial real estate on a generic basis:
Green Street Commercial Property Price Index
Indexed to 100 in August 2007
All Property CPPI weights: retail (20%), office (17.5%), apartment (15%), health care (15%), industrial (10%), lodging (7.5%), net lease (5%), self storage (5%), manufactured home park (2.5%), and student housing (2.5%). Retail is mall (50%) and strip retail (50%). Core Sector CPPI weights: apartment (25%), industrial (25%), office (25%), and retail (25%). (2)
So what does this all mean for impact on values? It is important to note the distinction between insurable cost values and market values (we have posted to our web-site a previous blog on the distinctions between these two premies of value).
Prior to COVID 19 and the oil price crisis, we would look at some predictive models (as below from Science Direct) that provided trends for construction costs (3):
However given the unprecedented nature of the current Black Swan event no one can reasonably predict what the new trends will be, perhaps we will see no change, an increase or sharp drop for both construction costs and market values. However, government intervention may stave off sharp drops or at least shorten the effects of the Black Swan event. Again it is important to note the distinction between insurable cost values and market values, the trends for both are somewhat correlated over time (not perfectly), however in the current environment they could de-couple as governments look to financially support infrastructure projects as economy starters. Furthermore, we could see future insurable cost values and market value trends differ for component type, property type and regions.
Ultimately, we know we are in for periods of volatility (and that the volatility maybe based on geography), particularly until we have a vaccine for COVID 19. Accordingly, the only impact we can predict with some certainty is that we are going to have some volatility, and that we will need to build in some contingencies for this event and for future Black Swan events, time tells us they will occur and this latest event takes us to the extreme in terms of magnitude of impact. As below, some timelines that demonstrate potential impact due to COVID 19.
Timelines of Past Crises in the Stock Markets (4):
Faisal Khan (January 18, 2019). 9 Black Swan Events that changed the Financial World. Retrieved from https://www.datadriveninvestor.com/2019/01/18/9-black-swan-events-that-changed-the-financial-world/
Commercial Property Index. Retrieved from https://www.greenstreetadvisors.com/insights/CPPI.
Construction cost index prediction using neural networks. Retrieved from https://www.sciencedirect.com/science/article/pii/S1110016819300316#f0025
Trefis Team (March 13, 2020). Market Crashes Compared:-28% Coronavirus Crash Vs. 3 Historic Market Crashes. Retrieved from https://www.forbes.com/sites/greatspeculations/2020/03/13/market-crashes-compared28-coronavirus-crash-vs-4-historic-market-crashes/#5112cdd14ee8
The One Asset Class that keeps growing in value…but real estate is still a great hold!
As a full service appraisal company completing engagements around the world, we often get involved in unique valuations. Recently, we have been involved with or proposed on the valuation of facilities for sports franchises. Taking out the political issues around funding of these facilities and whether or not the investment on the tangible asset side is worthwhile, we definitely see that the value of the franchises themselves appear to be have some immunity from economic cycles and downward pressure on values.
Traditionally, we see economic cycles having 5 distinct phases (1):
During these cycles we see fluctuations in market value and insurable values, often in recessions we see market values dive while insurable values can stay the same or increase due to pressures as we are experiencing right now with shrinking capacity in the insurance market(s).
Interestingly, sports franchises seem to have immunity from these cycle forces, even if the team(s) are not successful in the field of play. Underlying the immunity is the strength of earnings for these franchises, no matter the general economic circumstance these franchises have expanded their earnings which in turn drives up values.“The discount bin is empty when shopping for teams in the major sports leagues. Every NFL, NBA and MLB franchise is now worth at least $1 billion.”(2)
Consider that Jerry Jones (Owner of the Dallas Cowboys) paid $140 million USD for the franchise in 1989. That converts to around $300 million USD in today’s dollars, annual inflation was around 2.5% over that timeframe. “In the last decade the Dallas Cowboys franchise value has increased by 220% (see below graph), even the lesser known NFL franchises have grown significantly. “(3) As the graph illustrates the value trend has stayed upward trending.
As comparative, let us look at an index of US Real Estate market values since 1998.
All Property CPPI weights: retail (20%), office (17.5%), apartment (15%), health care (15%), industrial (10%), lodging (7.5%), net lease (5%), self storage (5%), manufactured home park (2.5%), and student housing (2.5%). Retail is mall (50%) and strip retail (50%).
Core Sector CPPI weights: apartment (25%), industrial (25%), office (25%), and retail (25%). (4)
As you can see Commercial Real Estate in the US over time has increased but is subject to fluctuations based on economic cycles.
In looking at the volatility in general economic cycles, recessionary times can mean opportunities in real estate. Correlating the below graph on recessionary periods to the Green Street Commercial Property Price Index, we see a similar dip in real estate market values but values have had a general increasing trend. (5)
If you cannot own a sports franchise, commercial real estate is still a great hold!
5 Phases of Business Cycle
Kurt Badenhausen (July 22,2019). The World’s 50 Most Valuable Sports Teams 2019.
Cork Gaines (September 26, 2017). Jerry Jones paid a record $140 million for the Dallas Cowboys — the team is now worth $4.8 billion.
Commercial Property Index.
Jason Kirby (December 5, 2017). The 91 most important economic charts to watch in 2018.