Definitions of Value

Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between marketplace participants at the measurement date. It is the value that is used in financial reporting.

Fair market value is the value of an asset between a buyer and seller who are under no obligation to buy or sell and are both fully aware of the characteristics of the asset. In the long run, market prices tend to reflect fair value if the market believes that management is acting in the shareholders’ best interest.

An asset may be worth more than its fair value to an investor because of the potential synergies that the investor can derive from the asset. This higher value is called investment value.

Therefore, an analyst must be aware of the purpose of a valuation. The intrinsic value is the relevant concept of value when valuing public equities, while investment value is most suitable for acquisitions.

Question

The most appropriate measure for strategic buyers pursuing acquisitions is the:

1. Intrinsic value.
2. Investment value.
3. Fair market value.

Solution

The correct answer is B:

Investment value is the concept of value to a specific buyer taking account of potential synergies and based on the investor’s requirements and expectations. It is an appropriate measure for strategic buyers pursuing acquisitions.

A is incorrect: The intrinsic value of any asset is the asset’s value given a hypothetically complete understanding of the asset’s investment characteristics. Intrinsic value is most appropriate when valuing public equities. 

C is incorrect: The fair market price is the price at which an asset or liability changes hands between a willing buyer and a willing seller when neither party is under compulsion to buy or sell.

Reading 22: Equity Valuation: Applications and Processes

LOS 22 (c) Describe definitions of value and justify which definition of value is most relevant to public company valuation.