Assumptions in valuation activities. Assumptions and limitations used by the appraiser in making the valuation

What is often overlooked in the practice of writing appraisal reports is that the assumptions and limitations section of the report is not such an insignificant section. This sometimes leads to the fact that the report may be compiled in violation of the law.

To avoid such moments, stronger arguments should be given in favor of the importance of this section of the report.

So what exactly is meant by assumptions and limitations within a valuation report?

For an appraiser, in the most general form, we can talk about two groups of assumptions and restrictions: those that are dictated by law and those that are formed by it based on the specifics of the object of assessment, as well as its goals and objectives. Thus, the legislation, in particular, defines such points as, for example, that when conducting an assessment, a specialist is prohibited from using data from sources dated later than the date of assessment; the fact that the final value determined by the appraiser can be recognized as recommended for the transaction no later than 6 months after the date of preparation of the report, etc.

As for the assumptions and restrictions that are formed by the appraiser himself, they, in general, serve to insure the appraiser against possible questions from the user or inspection bodies and can relate both to the assessment process and to assumptions about certain qualitative and quantitative characteristics of the object of assessment.

So, for example, the first category may include such a limitation as the inability to use the report for any purposes other than those specified in the assessment task. Thus, the appraiser has a certain leverage over the number of potential users of the appraisal report.

But by establishing certain assumptions, the appraiser can regulate not only procedural nuances. Regarding the final cost, we can note such important assumptions that appraisers resort to to determine the value. So, for example, when determining the liquidation value for some objects, the appraiser himself does not choose a limited period during which the object must be sold. And since when liquidation value assessment the implementation period and the value itself are directly proportional. In such conditions, depending on what period of implementation the appraiser sets as assumptions, this will be the cost.

In addition, often, when selling the property of bankrupts or debtors as part of enforcement proceedings, the appraiser is required to determine the net market value, without taking into account encumbrances, but in fact, any encumbrances (in the form of arrest, pledge, etc.) are still present. At the same time, based on the theory of valuation, an object with an encumbrance will logically cost less than a “clean” one. That is why, indicating in the section of assumptions and limitations the basis on which legal conditions the object is assessed is significant from the point of view of the final cost.

The examples already given make it possible to understand that the section of assumptions and limitations should not be treated formally, since they, in many ways, can “set the tone” for a future assessment, while regulating the approaches, methods, and cost determination process used.

For a long time, there were no mandatory requirements for the assessment of real estate. Each appraiser actually had his own judgments and used those methods in real estate valuation that were closer to him. However, recently the Ministry of Economic Development of Russia, in order dated September 25, 2014 N 611, established the Federal Valuation Standard “Real Estate Valuation (FSO N 7)”.

General approaches to real estate valuation

In accordance with Art. 5 of the Law of the Russian Federation No. 135-FZ “On Valuation Activities” “the objects of valuation include ownership and other real rights to property or individual items from the property,” i.e. The purpose of valuation is, first of all, to determine the value of the right. The determination of market value is based on the premise that property is sold on the market, therefore, first of all, the market value of the property must be assessed. Of course, it happens that appraisers make a special value assessment or other assessment. However, most often it is necessary to estimate the market value.

Market value - Under the market value, in accordance with the Law of the Russian Federation “On Valuation Activities in the Russian Federation” dated July 29, 1998. No. 135-FZ, is understood as the most probable price at which a given valuation object can be alienated on the open market in a competitive environment, when the parties to the transaction act reasonably, having all the necessary information, and the value of the transaction is not affected by any extraordinary circumstances, that is :

one of the parties to the transaction is not obliged to alienate the object of valuation, and the other party is not obliged to accept execution;

the parties to the transaction are well aware of the subject of the transaction and act in their own interests;

the valuation object is presented to the open market in the form of a public offer;

the transaction price represents a reasonable remuneration for the object of valuation, and there was no coercion on the part of the parties to the transaction on any part;

payment for the valuation object is expressed in monetary form.

General approaches to the valuation of real estate were defined back in 2007 in the order of the Ministry of Economic Development of the Russian Federation dated July 20, 2007 N 256 (as amended on October 22, 2010) “On approval of the federal valuation standard “General concepts of valuation, approaches to valuation and requirements for conducting valuation ( FSO N 1)".

When conducting an assessment, the following should be described:

a) the object of assessment;

b) property rights to the valuation object;

c) the purpose of the assessment;

d) the intended use of the assessment results and associated limitations;

e) type of cost;

f) date of assessment;

g) the period for the assessment;

h) assumptions and limitations on which the assessment should be based.

Also, during the assessment, an analysis of the best use of the property is carried out. In practice, the analysis of the optimal use of a property is determined by checking the compliance of the considered use options with the following categories:

be physically possible, i.e. correspond to resource potential;

be legally permissible, i.e. the duration and form of the intended use must not be subject to any existing or potential legal restrictions;

to be financially wealthy, i.e. use must provide income equal to or greater than the sum of operating expenses, financial obligations and capital expenditures;

be as efficient as possible, i.e. have the highest productivity among use cases whose likelihood of implementation is confirmed by the market.

In terms of real estate valuation, it is very important that this standard establishes the approaches that an appraiser should use when making an assessment.

Table

Approaches to real estate valuation

It is important that if the appraiser does not use any approach in the assessment, he must justify this.

The valuation report should also contain comparisons of values ​​determined using different approaches.

When valuing real estate, it is very important to use a cost approach.

When using the cost approach, it is important to calculate in actual prices the costs of recreating a similar object. It is also important to consider that the cost of new construction, in addition to direct costs, includes the entrepreneur’s profit. Entrepreneur's profit (EP) is a market-set value that reflects the amount an entrepreneur expects to receive as a premium for the use of his capital invested in a construction project. An entrepreneur's profit is mainly a function of risk and depends on the specific market situation.

The cost is equal to: the cost of new construction + the entrepreneur’s profit

1,331,712+239,708=1,571,420 rub.

Determination of the amount of physical wear and tear

Table

The cost of built-in non-residential premises, determined by the cost approach, is (rounded):

RUB 1,285,422

One million two hundred eighty five thousand four hundred twenty one ruble

This approach is based on the premise that the value of any property depends on the amount of income it is expected to generate. This approach examines the property's ability to generate a certain amount of income, which is usually expressed in the form of rental income from operation and income from the sale of the property at the end of the holding period. The income method includes two main techniques - the direct capitalization technique and the discounting technique.

Determining the market value of non-residential premises with an area of ​​42.3 sq.m using the income approach.

Table for calculating the value of real estate using the discounted cash flow method

Thus, the cost of the object, determined using the income approach, is (rounded): RUB 1,084,000.

As part of the comparative approach, the sales comparison method was used. When applying this method, the value of the Valuation Property is determined by comparing the sales price of similar objects. The basis for the application of this method is the fact that the value of the Valuation Object is directly related to the sale price of similar objects. Each comparable sale is compared to the property being appraised. Adjustments are made to the comparable sales price to reflect significant differences between them.

To determine the final result of the market value of 1 sq.m. of the assessed object, we find its weighted average value, and assign the greatest weight to the result obtained with fewer adjustments.

Table

Thus, the weighted average value of the market value of 1 sq.m. the total area of ​​the assessed Property is: RUB 31,701.

Thirty-one thousand seven hundred one ruble

The cost of the Property, determined using the market approach, is (rounded): RUB 1,347,000.

One million three hundred forty-seven thousand rubles

Depending on the amount and reliability of the information used within each approach, the results of these approaches may differ to a greater or lesser extent from each other.

The choice of the final cost value is based on several intermediate results. To determine the final cost estimate, as a rule, the weighted average method is used, in accordance with which a weight coefficient is assigned to the result of each approach.

Taking into account the three approaches, the cost of the object is:

1,285,422 + 1,084,000 + 1,347,000 = 3,716,422 rubles

The average is: 1,238,807 rubles

It is important to consider the following guidelines when using assessment approaches.

Cost-effective approach

It is necessary to take into account the cost of restoration of the full value of the property, and prices must be current, taking into account correction factors.

When using the cost approach, it is important to take into account the wear and tear of buildings and structures.

Income approach

When using the income approach in real estate valuation, it is important to use a discount rate taking into account real income; often, when carrying out valuations, inflated discount rates are used, as a result of which the value of the valuation is inflated.

Comparative approach

In a comparative approach, it is important to use as many analogue options as possible; of course, we are not talking about dozens of options, but using two or three options will not give a positive effect when assessing comparative approaches. Secondly, analogues must be similar, that is, located in the same area, have the same characteristics of a house, building, structure, and be located at the same distance from the metro or transport hubs. Otherwise, correction factors will need to be taken into account.

It is also important to take into account the new requirements for the assessment of real estate.

New requirements for real estate valuation

Let us list these requirements.

Firstly, the appraiser must inspect the property being appraised. . In case of failure to conduct an inspection, the appraiser indicates in the evaluation report the reasons why the object of assessment was not inspected, as well as assumptions and limitations associated with the failure to conduct an inspection.

Secondly, a joint assessment of a land plot and capital construction projects located on it in the absence of title and title documents for the land plot is carried out taking into account the rights and obligations of the owner of capital construction projects in relation to the land plot established by current legislation.

However, it is important to remember that illegal buildings can be demolished subject to legal requirements. A person who has carried out an unauthorized construction does not acquire ownership rights to it. It does not have the right to dispose of the construction - sell, donate, lease, or make other transactions. An unauthorized building is subject to demolition by the person who carried it out or at his expense (Article 222 of the Civil Code of the Russian Federation). The ruling of the Constitutional Court of the Russian Federation dated June 24, 2014 N 1369-O states that the obligation to demolish an unauthorized building is a sanction for an offense, as provided for in Art. 222 of the Civil Code of the Russian Federation. A similar conclusion was made in the ruling of the Constitutional Court of the Russian Federation dated January 17, 2012 N 147-О-О, the court indicated that the obligation to demolish an unauthorized building constitutes a sanction for an offense committed, which may consist of a violation of both the norms of land legislation governing the provision of land for construction, as well as urban planning regulations governing design and construction.

However, this feature is not actually taken into account in the new real estate valuation standard.

Thirdly, the standard establishes additional information that must be indicated in the description of the property.

The description must indicate:

The composition of the object of assessment, indicating information sufficient to identify each of its parts (if available);

Characteristics of the appraised object and its appraised parts or links to documents available to the appraiser containing such characteristics;

Rights taken into account when assessing the subject of assessment, restrictions (encumbrances) of these rights, including in relation to each part of the subject of assessment.

The assessment assignment may indicate other estimated values, including:

market rent (the estimated amount of money for which a property could be rented at the valuation date under typical market conditions);

Costs of creation (reproduction or replacement) of capital construction projects;

Losses (actual damage, lost profits) upon alienation of a property, as well as in other cases;

Costs for eliminating environmental pollution and (or) reclamation of land.

Fourthly, requirements have been established for market analysis when conducting an assessment.

Real estate market analysis is performed in the following sequence:

a) analysis of the impact of the general political and socio-economic situation in the country and region where the property being assessed is located on the market of the property being assessed, including trends that have emerged in the market in the period preceding the date of assessment;

b) determination of the market segment to which the valued object belongs. If the real estate market is underdeveloped and there is insufficient data to provide an idea of ​​the prices of transactions and (or) offers with comparable real estate objects, it is possible to expand the study area to territories that are similar in economic characteristics to the location of the property being evaluated;

c) analysis of actual data on the prices of transactions and (or) offers with real estate objects from market segments to which the valued object can be classified under actual, as well as alternative options for its use, indicating the range of price values;

d) analysis of the main factors influencing the demand, supply and prices of comparable real estate, for example, rates of return, payback periods for investments in the real estate market, with intervals for the values ​​of these factors;

e) main conclusions regarding the real estate market in the segments necessary to evaluate the property, for example, market dynamics, demand, supply, sales volume, market capacity, motivation of buyers and sellers, liquidity, price fluctuations in the market of the property being valued and other conclusions.

Previously, there were no requirements for the sequence of such analysis. Therefore, if the analysis is not carried out in the established sequence, then it is necessary to indicate the reasons for the corresponding discrepancies.

Fifth, requirements for best use analysis are established.

Analysis of the most effective use of the object being assessed is carried out, as a rule, based on space-planning and design solutions. For assessment objects, which include a land plot and capital construction objects, the most effective use is determined taking into account the existing capital construction objects. In this case, such an analysis is carried out by carrying out the necessary calculations or without them, if justifications are presented that do not require calculations.

Best use analysis was previously included in appraisers' reports, but now the requirements for such a report are more specific.

The sixth feature is the establishment of requirements for a comparative approach.

When applying a comparative approach to real estate valuation, the appraiser takes into account the following provisions:

a) a comparative approach is used to evaluate real estate, when it is possible to select a sufficient number of analogous objects with known transaction and (or) offer prices for evaluation;

b) real estate objects that belong to the same market segment as the object being valued and are comparable to it in terms of pricing factors are used as analogue objects. At the same time, for all real estate objects, including the one being assessed, pricing for each of these factors must be uniform;

c) when conducting an assessment, the volume of market data available to the appraiser about similar objects and the rules for their selection for calculations must be described. The use in calculations of only part of the analogous objects available to the appraiser must be justified in the assessment report;

d) to perform calculations, specific indicators of value (comparison units) that are typical for a similar object, prevailing on the market of the object being valued, are used, in particular the price or rent per unit of area or unit of volume;

e) depending on the initial information available on the market, in the process of real estate valuation, qualitative valuation methods (relative comparative analysis, expert assessment method and other methods), quantitative valuation methods (regression analysis method, quantitative adjustment method and other methods), as well as their combinations.

All these criteria must coincide when evaluating analogous objects.

The seventh feature is related to the income approach to valuation.

a) the income approach is used to value real estate that generates or is capable of generating income streams;

b) within the framework of the income approach, the value of real estate can be determined by the direct capitalization method, the discounted cash flow method or the capitalization method using calculation models;

c) the direct capitalization method is used to evaluate real estate assets that do not require significant capital investments in their repair or reconstruction, the actual use of which corresponds to their most effective use. Determining the value of real estate objects using this method is carried out by dividing the annual income from the object corresponding to the market by the total capitalization rate, which is determined based on the analysis of market data on the ratio of income and prices of real estate objects similar to the object being valued;

d) the discounted cash flow method is used to evaluate real estate that generates or is capable of generating income streams with arbitrary dynamics of their changes over time by discounting them at a rate corresponding to the return on investment in similar real estate;

e) the capitalization method based on calculation models is used to evaluate real estate that generates regular income streams with the expected dynamics of their change. Capitalization of such income is carried out at a general capitalization rate, constructed on the basis of the discount rate taken into account in the calculation of the capital return model, methods and conditions of financing, as well as expected changes in income and property value in the future;

f) the structure (taking into account taxes, return of capital, rate of change in income and asset value) of the discount rates and (or) capitalization used must correspond to the structure of the discounted (capitalized) income;

g) for real estate that can be rented out, rental payments should be considered as a source of income;

h) the valuation of real estate intended for running a certain type of business (for example, hotels, restaurants, gas stations) can be carried out on the basis of information about the operating activities of this business by separating from its value components that are not related to the real estate being valued.

The eighth feature is the establishment of requirements for the cost approach.

When applying the cost approach, the appraiser takes into account the following provisions:

a) the cost approach is recommended to be used for the valuation of real estate - land plots built up with capital construction projects, or capital construction projects, but not their parts, for example, residential and non-residential premises;

b) it is advisable to use the cost approach to evaluate real estate if it corresponds to the most efficient use of the land plot as undeveloped and it is possible to correctly assess physical wear and tear, as well as functional and external (economic) obsolescence of capital construction projects;

c) the cost approach is recommended to be used when market activity is low, when there is insufficient data necessary to apply the comparative and income approaches to valuation, as well as to evaluate real estate for special purposes and uses (for example, linear objects, hydraulic structures, water towers, pumping stations, boiler houses , utility networks and other real estate for which there are no market data on transactions and offers);

d) in general, the value of a property, determined using the cost approach, is calculated in the following sequence:

determining the value of rights to a land plot as undeveloped;

calculation of costs for the creation (reproduction or replacement) of capital construction projects;

determining the entrepreneur's profit;

identification of wear and tear and obsolescence;

determining the cost of capital construction projects by summing up the costs of creating these facilities and the entrepreneur’s profit and subtracting their physical wear and tear;

determining the value of a real estate property as the sum of the value of rights to a land plot and the cost of capital construction projects;

e) for the purpose of determining the market value of a property using the cost approach, the land plot is assessed as undeveloped, assuming its most effective use;

f) calculation of costs for the creation of capital construction projects is carried out on the basis of:

Data on construction contracts (agreements) for the construction of similar facilities;

Data on the costs of construction of similar facilities from specialized directories;

Estimate calculations;

Information on market prices for building materials;

Other data;

g) the costs of creating capital construction projects are determined as the sum of the costs included in the construction and installation work directly related to the creation of these objects, and the costs associated with their creation, but not included in the construction and installation work;

h) for the purpose of assessing the market value of real estate, the amount of profit of an entrepreneur is determined on the basis of market information using extraction methods, expert assessments or analytical models, taking into account direct, indirect and opportunity costs associated with the creation of capital construction projects and the acquisition of rights to a land plot;

i) the amount of wear and tear and obsolescence is defined as the loss of real estate value as a result of physical wear and tear, functional and external (economic) obsolescence. At the same time, wear and tear and obsolescence relate to capital construction projects related to the real estate being assessed.

Thus, more specific requirements for real estate valuation are defined.

In conclusion, it should be noted that both appraisers and clients need to take into account both previously established approaches to valuation and new requirements for real estate valuation. For example, you cannot arbitrarily take the costs of creating capital construction projects; you need to justify such data either with estimates or information in construction contracts. Clear criteria for using both the income and comparative approaches are defined. This means that clients must be more demanding about reports and appraisers must take the new standard into account as much as possible. In addition, it is important that judicial practice may also change taking into account the new mandatory requirements for assessment. Therefore, if some requirements are not taken into account, then there is the option of declaring the report invalid.

1.1. An assumption is an assumption, accepted as true, regarding the facts, conditions and circumstances affecting the value of the subject of assessment or approaches to assessment. The assumption does not require verification by a RICS member during the assessment process. Assumptions are usually made in cases where confirmation of their correctness does not require special research by the appraiser.

1.2. The assumption often requires the evaluator to conduct a limited amount of research. Therefore, the assumptions that will be mentioned in the report must be agreed upon with the customer and included in the terms of the assessment agreement.

1.3. If, after conducting an inspection or study, the evaluator believes that the pre-agreed assumption with the client is not applicable or should become a special assumption, then revised assumptions and assessment approaches should be discussed with the client before completing the assessment and submitting the report.

This section is devoted to assumptions that reflect the following parameters:

A) property rights;
b) condition of buildings;
V) engineering Communication;
G) urban planning (territory zoning);
d) harmful and dangerous substances;
e) environmental issues;
and) sustainable development.

This list is not exhaustive, so careful consideration should be given to the assumptions required to complete a particular assignment. There are no “standard” assumptions whose use need not be described.

A) Property rights
The appraiser needs to obtain information about significant details regarding property rights to the property being valued. The information may be obtained in the form of a summary provided by the customer or third parties, or in the form of copies of relevant documents. If the client's lawyers fail to provide a report detailing the property rights to the property being valued, the appraiser is required to indicate what information he relied on and what assumptions he made (for example, in addition to the information provided, an assumption was made that there was no encumbrance on the title to the property).
When providing valuation services to a customer, an analysis of title documents is sometimes required, which should be reflected in the appropriate assumption. It must be taken into account that such an analysis must be carried out by lawyers, and the appraiser must indicate that the assumptions are subject to verification by the customer's legal advisers, and the appraiser is not responsible for the correctness of the analysis of title documents for the property. Otherwise, the appraiser assumes no less obligations than those imposed by law on a competent lawyer providing legal advice, directly or indirectly.

b) Condition of buildings
Even with the appropriate qualifications, the appraiser, as a rule, does not conduct an examination of the technical condition in order to identify all defects or malfunctions of the building. However, the appraiser must pay attention to obvious defects that affect the value of the building, unless there is a special allowance. The appraiser must indicate that the inspection is not an examination of the technical condition of the building, and determine the scope of his responsibility for conducting an investigation and providing comments on structural elements and any defects found. In addition, it should be stated that the assumption will be made that the building(s) are in good condition, other than specifically noted defects.

V) Engineering Communication
The presence and condition of building-related utilities and any installations, machinery and equipment often significantly influences the cost. Generally, detailed investigation is beyond the scope of the appraisal, so when conducting an appraisal, the appraiser must indicate the available sources of information and the degree to which they are reliable. The general assumption is that the utility system, controls and software are in working order and free from defects.

G) Urban planning (territory zoning)
The appraiser must determine whether the property has the appropriate permits associated with existing buildings and their uses, and whether there are government intentions or proposals that could positively or negatively affect the value. Typically, such information is open; in different cases, obtaining accurate information requires time and additional costs. The evaluator should indicate what studies are expected to be performed or what assumptions are made in cases where it is not practical to confirm information in making a given evaluation.

d) Harmful and dangerous substances
Typically, the assessor is not properly qualified to provide advice regarding the nature of the contaminants and hazardous substances, the risks associated with them, and the costs incurred in removing the contaminants and substances. However, if the appraiser already has information about the nature of the area in which the property is located and has experience appraising similar properties, he or she may likely be expected to comment on the potential for contamination affecting the property's value and marketability. Therefore, the appraiser must establish the scope of the research to be carried out and indicate the sources of information, as well as the assumptions that will be used.

e) Environmental issues
For some types of property, environmental factors are specific properties of the property itself or the surrounding area and can influence the value of this property. (Examples: mining, flood hazards, or power transmission equipment). Although it is not within the appraiser's scope of practice to provide detailed commentary on the impact of these factors, the presence or potential occurrence of such factors can often be determined during an inspection carried out as part of the assessment, either through regular questioning or through knowledge of the area. . The evaluator should indicate the limitations of the scope of the studies performed and make appropriate assumptions.

and) Sustainable development
Not only does the property itself have an impact on the environment during its life, but also environmental and social sustainability aspects can have an impact on the operation of the property.

In conclusion, we note one important circumstance for understanding investment technologies: what assumptions are made when calculating performance indicators and to what extent they correspond to real practice.

All methods relied heavily on the following two assumptions.

1. Cash flows relate to the end of the accounting period. In fact, they can appear at any time during the year in question. In the framework of the investment technologies discussed above, we conditionally bring all cash income of the enterprise to the end of the corresponding year.
2. The cash flows that are generated by the investment are immediately invested in some other project to provide additional income on this investment. It is assumed that the return rate of the second project will be at least the same as the discount rate of the analyzed project.

The assumptions used, of course, do not fully correspond to the real state of affairs, however, given the long duration of projects in general, they do not lead to serious errors in assessing effectiveness.

Tasks

1. The company requires a minimum return of 14 percent when investing its own funds. Currently, the company has the opportunity to purchase new equipment costing $84,900. Using this equipment will increase production volume, which will ultimately result in $15,000 in additional annual cash income over 15 years of use of the equipment. Calculate the net present value of the project, assuming a zero residual value of the equipment after 15 years.

Solution.

We will carry out the calculation using the table, finding the discount factor using financial tables.

The net present value was positive, supporting the project's acceptance.

2. The company plans new capital investments over two years: $120,000 in the first year and $70,000 in the second. The investment project is designed for 8 years with full development of the newly introduced capacities only in the fifth year, when the planned annual net cash income will be $62,000. The increase in net annual cash income in the first four years according to the plan will be 30%, 50%, 70%, 90%, respectively, for years from the first to the fourth. The company requires a minimum return of 16 percent when investing funds.

Need to determine

Solution.

1. Let’s determine net annual cash income during the implementation of the investment project:

in the first year - $62,000 0.3 = $18,600;

in the second year - $62,000 0.5 = $31,000;

in the third year - $62,000 0.7 = $43,400;

in the fourth year - $62,000 0.9 = $55,800;

in all remaining years - $62,000.

2. We will calculate the net modern value of the investment project using a table.

3. To determine the discounted payback period, we calculate the values ​​of net cash flows by year of the project. To do this, you just need to find the algebraic sum of the two cash flows in the first year of the project. It will be ($60,347) + $16,035 = ($44,312). The remaining values ​​in the last column of the previous table are net values.

4. We will calculate the discounted payback period using a table in which we will calculate the accumulated discounted cash flow by year of the project.

The table shows that the number of full years of payback for the project is 7. The discounted payback period will therefore be

of the year.

3. The company has two options for investing its $100,000. In the first option, the company invests in fixed assets by purchasing new equipment, which after 6 years (the duration of the investment project) can be sold for $8,000; The net annual cash income from such an investment is estimated to be $21,000.

Under the second option, the company can invest money in working capital (inventories, increasing accounts receivable) and this will generate $16,000 in annual net cash income over the same six years. It is necessary to take into account that at the end of this period, working capital is released (inventories are sold, accounts receivable are closed).

Which option should be preferred if the company expects a 12% return on the funds it invests? Use the method of pure modern meaning.

Solution.

1. Let us present the initial data of the problem in a compact form.

Let us note again that working capital and equipment are planned to be sold only after 6 years.

2. Let us calculate the net modern value for the first project.

3. We will carry out similar calculations for the second project

4. Based on the calculation results, the following conclusions can be drawn:

• the second project should be recognized as the best;
• the first project should be rejected altogether, even without connection with the available alternative.

4. The company is planning a major investment project involving the acquisition of fixed assets and major repairs of equipment, as well as investments in working capital according to the following scheme:

• $130,000 - initial investment before the start of the project;
• $25,000 - investment in working capital in the first year;
• $20,000 - investment in working capital in the second year;
• $15,000 - additional investment in equipment in the fifth year;
• $10,000 is the cost of major renovations in the sixth year.

At the end of the investment project, the company expects to sell the remaining fixed assets at their book value of $25,000 and release part of the working capital worth $35,000.

Solution.

The scheme for solving the problem remains the same. We compile a table of calculated data and determine the discounted values ​​of all cash flows.

The project should be accepted because its net contemporary value is substantially positive.

5. The company requires a minimum return of 18 percent when investing its own funds. The company currently has the opportunity to purchase new equipment costing $84,500. Using this equipment will increase production volume, which will ultimately result in $17,000 in additional annual cash income over 15 years of use of the equipment. Calculate the net present value of the project, assuming that the equipment can be sold for a residual value of $2,500 at the end of the project.

6. The company plans new capital investments over three years: $90,000 in the first year, $70,000 in the second and $50,000 in the third. The investment project is designed for 10 years with full development of the newly introduced capacities only in the fifth year, when the planned annual net cash income will be $75,000. The increase in net annual cash income in the first four years according to the plan will be 40%, 50%, 70%, 90%, respectively, for years from the first to the fourth. The company requires a minimum return of 18 percent when investing funds.

Need to determine

• pure modern value of the investment project,
• discounted payback period.

How will your idea of ​​the effectiveness of the project change if the required return rate is 20%.

7. The company has two options for investing its $200,000. In the first option, the company invests in fixed assets by purchasing new equipment, which after 6 years (the duration of the investment project) can be sold for $14,000; The net annual cash income from such an investment is estimated to be $53,000.

According to the second option, the company can invest part of the money ($40,000) in the purchase of new equipment, and the remaining amount in working capital (inventories, increase in accounts receivable). This would generate $34,000 in annual net cash income over the same six years. It is necessary to take into account that at the end of this period, working capital is released (inventories are sold, accounts receivable are closed).

Which option should be preferred if the company expects a 14% return on the funds it invests? Use the method of pure modern meaning.

8. An enterprise is considering an investment project involving the acquisition of fixed assets and major repairs of equipment, as well as investments in working capital according to the following scheme:

• $95,000 - initial investment before the start of the project;
• $15,000 - investment in working capital in the first year;
• $10,000 - investment in working capital in the second year;
• $10,000 - investment in working capital in the third year;
• $8,000 - additional investment in equipment in the fifth year;
• $7,000 - capital repair costs in the sixth year;

At the end of the investment project, the company expects to sell the remaining fixed assets at their book value of $15,000 and free up working capital.

The result of the investment project should be the following net (i.e. after taxes) cash income:

9. A project requiring an investment of $160,000 would generate an annual income of $30,000 over 15 years. Assess the feasibility of such an investment if the discount factor is 15%.

10. The project, designed for 15 years, requires an investment of $150,000. No income is expected for the first 5 years, but for the next 10 years the annual income will be $50,000. Should this project be accepted if the discount factor is 15%?

11 . Projects analyzed ($):

13. Analyze two alternative projects if the cost of capital is 10%.

15. The required investment for the project is $18,000; estimated income: in the first year - $1500, in the next 8 years - $3600 annually. Assess the feasibility of accepting the project if the cost of capital is 10%.

16. The company is considering the feasibility of purchasing a new production line. There are two models on the market with the following parameters ($)

The following conditions, assumptions and limitations are an integral part of this report.

General terms

Based on the following interpretations and understandings, these conditions imply their full and unambiguous understanding by the Appraiser and the Customer, hereinafter referred to as the Parties, as well as the fact that all provisions, results of negotiations and statements not specified in the report are void. These Terms may not be amended or otherwise modified except by the signature of both Parties. These terms apply to the successors and executors of the Parties.

General purpose of the report

This Report is reliable in full only for the purposes specified in this report and for use for the specified purpose. Neither Party may use the Report or (any part thereof) other than as provided for in the assessment agreement.

Liability provisions

The appraiser does not assume responsibility for financial and tax reporting related to the management of the assessed property. Responsibility for this kind of reporting related to the object examined by the Appraiser lies with the owner of the object.

In his actions, the Appraiser acted as an independent performer. When conducting the assessment, the Appraiser assumed that the information provided to him was accurate and reliable and did not verify it.

Release from liability

The Customer accepts the conditions in advance to release and secure the Appraiser, and, at the Appraiser’s request, to protect him from all kinds of expenses and liability arising from a claim by third parties against the Client due to the legal use by third parties of the results of the Appraiser’s work. The Appraiser is not required to appear in court or otherwise testify regarding the Report or the appraised property, except pursuant to a separate agreement with the Client or an official subpoena.

To perform assessment work, the Customer may provide information (documents) that is confidential. The Appraiser believes that this information was received by the Customer lawfully and transferred to the Appraiser with the consent of the owner (holder) of this information. Possible claims of third parties regarding the use of confidential information cannot be brought against the Appraiser in relation to the above information.

Description of the property

The appraiser does not accept responsibility for describing the legal status of the property and questions that involve discussions of legal aspects of ownership. Ownership rights to the valued object are assumed to fully comply with the requirements of the law, unless otherwise specifically stated.

Final provisions

The appraiser took into account the responsible attitude of the owner and proper management of the property being assessed.

The information, estimates and opinions received by the Appraiser and contained in this report were obtained from sources that, in the opinion of the Appraiser, are reliable. However, the Assessor cannot accept responsibility for the accuracy of this data and references are made where possible to the source of the information.

The Appraiser's opinion regarding the estimated value of the property is valid only as of the date specifically stated in this report. The Appraiser does not accept any responsibility for social, economic, physical or governmental changes that may occur after this date and affect market factors and thereby affect the Appraiser's judgment.

The Valuation Report contains the Appraiser's professional opinion regarding the value of the property being valued and is not a guarantee that it will change hands at a price equal to the value stated in the Valuation Report. This value may be considered recommended for the purposes of making a transaction with the subject of assessment, if no more than 6 months have passed from the date of drawing up the Valuation Report to the date of the transaction with the subject of assessment or the date of submission of the public offer.

The appraiser assessed the property only based on the information provided and a personal inspection of the property.

Calculations as part of the assessment of the Property were carried out by the Appraiser using Microsoft® Excel. The calculation tables and formulas presented in this Report contain rounded values ​​of indicators. The final values ​​were also obtained using rounded figures.