Many enterprises sell their assets, as a rule, constituting production infrastructure, at a residual value. This may be due to various reasons - the need to modernize factory lines, the desire of the business owner to sell the company and move to another segment, the need for speedy settlements with creditors. What is the specifics of the sale of facilities at residual value? What factors influence the determination of its value?
What is resale value?
Salvage value is a monetary indicator of the valuation subject, reduced by the amount of costs associated with its sale (for example, commissions, expenses for advertising, storage, delivery, etc.). In practice, the need for its determination arises if the corresponding object must be implemented as soon as possible.
As a rule, the calculation of the liquidation value is carried out if a commercial company leaves the market in bankruptcy or pays for debts with existing assets in the form of certain infrastructure objects.
An enterprise can also decide to sell assets at a residual value if, for example, it involves selling a business or optimizing a production model to meet new market requirements. Then the presence of obsolete, from a technological point of view, funds of the enterprise can be the reason for the loss of profit in an amount exceeding that which would characterize the sale of assets at standard prices. Therefore, the residual value of fixed assets can be minimized - only to ensure that the company is more likely to be able to modernize production facilities, and then start to extract more revenue due to the release of more technological groups of goods on the market.
Prompt sale of the company's assets may be in demand if the business owner decides to engage in work in a fundamentally different segment, and he urgently needs cash. The sale of company-owned facilities at a reduced price may be preferable to obtaining a loan, since interest payments on it can be significantly larger than the difference between the liquidation and standard prices of assets.
As a rule, the indicator in question is significantly lower than current market prices for the respective objects. But subject to the effective management of the company, the residual value of the asset can be generally comparable to the standard. Moreover, if the property being sold is characterized by high price volatility, then it can theoretically be sold more profitably (at the peak of market value) than if the sale was carried out at ordinary prices, but during a period of price reduction.
It can be noted that the resale value of the object in some cases is not calculated in a short time. For example, if multi-stage and, as a rule, long bankruptcy proceedings large enterprise. In this case, the price of the sold object may not differ so significantly from the market.
Classification of liquidation values
Salvage value is actually the collective name of several rather dissimilar indicators. Therefore, an important nuance of considering its specificity will be classification. Experts identify the following varieties of resale value:
- short-term or compulsory;
- medium term;
- reflecting the process of writing off illiquid or non-saleable assets.
The first scenario assumes the most rapid sale of assets of the company. It may correspond to the situation in which the company urgently needs to pay off its debts.
The second type of residual value involves the sale of the assets of the company for a sufficiently long period. This may correspond exactly to the scenario of a standard bankruptcy procedure for a large business. The main task of company management is to sell assets so that their value is close to market value.
The third type of residual value is mainly reflected in negative values, since it involves not a sale, but a write-off of assets. The company usually does not receive any income from this operation.
How residual value is calculated
Having considered the definition of residual value of the main approaches to its classification, we will study how the indicator in question is calculated. The solution of the corresponding problem is carried out in several main stages.
First of all, the company’s management develops a schedule in accordance with which the liquidation of the company's assets is supposed. The next stage is the calculation of the value of assets, as well as possible costs, which are associated with their liquidation. Further, the corresponding indicator is adjusted taking into account the urgent sales of the object and other circumstances of the procedure in question. This may take into account, for example, what is the size of the obligations of the company, the fulfillment of which requires the sale of the company's assets at a residual value.
As for directly calculating the indicator in question, it is carried out taking into account data on the balance sheet of the company. Their definition involves an inventory of the property of the company. In some cases, when calculating the indicator in question, the gross proceeds from the sale of assets are also calculated. The operating profit figures for the liquidation period may also be taken into account.
When calculating the optimal value of the sold assets of the company, priority expenses are taken into account related to payroll to the staff, transfer of payments to the budget, money transactions to creditors who do not participate in the bankruptcy procedure (if the liquidation sale of the company is connected with it).
The formula for calculating the residual value
How is residual value calculated? The formula for calculating this indicator includes the following components:
- current market price of the object;
- correction factor;
- an indicator reflecting the fact that an asset needs to be sold on a timely basis.
The sequence of calculations when applying the formula in question is as follows. First, the value of the correction factor is determined - taking into account the urgency of sales, the current level of demand for the sold object, its characteristics. The considered element of the formula on average has a value of the order of 0.3. That is, we can say that liquidation value is an indicator that is approximately 30% lower than market prices for the sold object.
As soon as the size of the adjustment coefficient is determined, it is necessary to subtract it from 1. After - multiply the resulting figure by the value of the market value of the sold object. The most difficult thing, therefore, when calculating the liquidation price of an asset is to calculate the correction factor. Market value - an indicator that is determined without any problems. In order to calculate the coefficient, you may need to refer to statistical data reflecting the specifics of transactions for the sale of objects at residual value in the past, which were carried out by firms in the same segment in which the company operates that quickly sells its assets. But it is possible that the coefficient will be significantly lower than the average statistics, especially if certain factors contribute to this. Consider their specifics in more detail.
Resale Value Factors
What factors can affect such an indicator as the liquidation value of the enterprise as a whole and the most problematic element of the formula for calculating them - the correction factor?
First of all, these are the desired sales dates for the respective assets. In many cases, their duration is directly proportional to the price of the objects sold by the enterprise. Salvage value is an indicator that depends on the characteristics of the assets. If this is real estate, then the material of its manufacture, type, location, year of construction are taken into account.
There are external factors of resale value. First of all, this is the level of supply and demand in the market in the segment to which the sold object belongs. The political factor also applies to external ones - it may matter in terms of the size of the market in which the sale of the asset of the enterprise is supposed. It is quite possible that representatives of certain states will not be able to purchase the object. Or the enterprise, in turn, will not be able to offer its assets in certain foreign markets.
Correlation of residual and initial value with liquidation
When calculating the liquidation rates for objects, their residual value may be taken into account. That is, a value based on the initial price of an asset, reduced by an indicator that reflects the degree of depreciation of the asset. In the event that, from a technological point of view, it corresponds to the level of new equipment, and the level of demand will have the same dynamics as when it was purchased, then the residual value of the corresponding object will most likely be as close to liquidation as possible. But if this asset will be a technologically obsolete element of infrastructure, it is likely that its price during operational sales will be significantly lower than the residual.
Of course, theoretically liquidation may correspond to the initial value of the object. This is possible with a minimum level of wear and tear (as an option - if it was not involved in production cycles) or, for example, if there is a market situation in which the demand for appropriate equipment significantly exceeds supply.
Another possible factor that may affect the liquidation price of an object is its location, as well as the costs associated with moving the equipment to the buyer's territory. It may turn out that the transportation costs for the delivery of the infrastructure element will be so high that the seller will have to lower the price so that the corresponding costs are acceptable to the buyer. In turn, it is quite possible that the cost of moving the equipment will be significantly lower than if the partner purchased infrastructure elements elsewhere. Then the residual value of the equipment can be reasonably increased by the company.
Change in the exchange rate as a factor in residual value
Thus, the prompt sale of infrastructure facilities of a company far from always implies a significant shortfall in profit. It is possible that even the initial cost of the equipment sold will be lower than the liquidation value. Although, of course, this is an exception to the rule. Such situations are most often possible in cases where there is a significant appreciation of the currency for which the object was purchased in the past. The decrease in the value of the asset due to depreciation and even its technological obsolescence can, however, be accompanied by the receipt of revenue that exceeds the cost of acquiring the corresponding infrastructure element - if the currency for which it is purchased has risen in price by more than the value of the correction factor.
At the same time, foreign partners of the company may show special interest in acquiring equipment at liquidation rates that correspond to the initial price of the infrastructure. Due to the depreciation of the currency of the state in which the seller company is registered, a foreign organization may find it very attractive for them to buy even outdated and somewhat worn out equipment, but cheaper in terms of the currency of their own state. Therefore, one of the most effective approaches to the successful implementation of the sale of company assets at liquidation rates is to enter foreign markets.
Methods for determining residual value
Let us examine now what are the methods for assessing liquidation value. Experts identify 2 main mechanisms of the corresponding type: direct and indirect. Consider their features.
A direct method for evaluating a company's liquidation assets involves comparing sales processes and analyzing the dependence of asset values on factors that affect them.
An indirect method of valuing assets involves determining their value based on market indicators. They are taken as a basis and adjusted based on the urgency of sales, as well as the nature of the requirements of the creditors of the company.
Which of the considered methods of liquidation value of assets is more effective?
Each of them has advantages and disadvantages. The direct method is especially good in cases where the managers of the company have a sufficiently reliable statistical database reflecting liquidation transactions concluded by segment companies in the past. The indirect method, in turn, will be more effective if the company does not have the opportunity to use the previous experience of firms in terms of relevant transactions.
Crisis factor in assessing resale value
There are a number of features in calculating the residual value of a firm’s assets in crisis conditions. The fact is that in such a situation it is not easy for the management of the company to determine the optimal price for the sold object (due to the fact that even its typical market value is unstable).
This factor can predetermine, on the one hand, some benefit for the company. As we noted above, with high price volatility, selling assets at the peak of value, even at a liquidation price, may be a good solution. It is in a crisis that such volatility can take shape. On the other hand, it is not known which way prices for the corresponding asset will begin to move further. In a crisis, it can be difficult to predict the dynamics of demand for certain objects. It is likely that it will decrease, as a result of which the liquidation value of assets may fall so much that their sale will become meaningless - the proceeds from the sale will not be enough to offset the debts.
Therefore, in a crisis, a good alternative to selling assets at liquidation prices may be conducting new rounds of negotiations with creditors. It is likely that in order to maintain a constructive relationship with the client, they will meet.
Summary
So, we studied the specifics of the implementation of the infrastructure of a commercial enterprise at prices that reflect their residual value. Sale of relevant assets may be carried out if:
- the company is in bankruptcy;
- the owner of the company sells the business in order to move to another segment;
- the company urgently needs to pay off loans;
- the company is modernizing production lines, and their early update will determine the amount of profit exceeding the amount of lost profit due to the difference between the standard and liquidation value of the equipment.
When calculating the indicator in question, the market value of the objects sold, their initial price, as well as various factors affecting the formation of supply and demand in the corresponding segment, the dynamics of technological development in the production of equipment for the same purpose that is sold by the company are taken into account.
A very significant circumstance in determining the liquidation price of an object may be the national currency rate. The impact on the process of operative sale of company assets may also have a crisis factor. Depending on the market situation, on the level of managers' existing knowledge regarding liquidation transactions in the past, the optimal method for valuing company assets is selected.
