There are three major methods that are used to determine the pricing of machinery and equipment. These methods include cost approach, sales comparison approach and income approach. This article will focus primarily on the sales comparison approach and how it can be used in determining machinery pricing.
Sales Comparison Approach
The sales comparison approach can be applied to almost any form of value determination at any level of trade. It carefully considers market data in determining the price of a subject item. In addition to an individual item, an appraisal may also be done for a production line in a group, or as a total facility.
The goal of the sales comparison approach is to accurately determine the desirability or market value of a subject item through an analysis and comparison of recent, similar sales. An appraiser will compare recent sales, also known as comparables, and prices of similar machines, with a subject item to determine the subject item’s price. The appraiser will then consider the individual features and quality of an item or asset to arrive at an indication of the most probable selling price for the subject.
In an arm’s length transaction, in which buyers and sellers act independently without one party influencing another, the result of the value is referred to as the fair market value (FMV). In an auction sale, the value result could be referred to as forced liquidation value (FLV).
Certain comparables may be adjusted if necessary, to reflect the conditions of the subject item. If the comparables from the market are not exactly like the subject item, adjustments may be made to make them as similar to the subject as possible. For instance, if the comparable is superior in quality to the subject item, a downward adjustment is applied. Conversely, if the comparable is inferior in quality to the subject, then an upward adjustment is applied instead.
Using these adjustments when necessary gives a better indication of value. The general rule of thumb is that the comparable is adjusted, not the subject item.
Common adjustments include:
5. Type of item (indirect approach)
6. Type of sale
7. Time of sale
8. Location of property or machinery
The sales comparison approach is extremely common in equipment, machinery, and real estate valuation. Although it is used regularly across several types of industries, it is always preferable when the type of items being appraised (in this case machinery) have a large amount of market and sales data to refer to. This method of assessing comparative machinery to determine price is most efficient when there are numerous sale records of identical (or remarkably similar) types of machinery.
Purpose of the Appraisal
There are many reasons why you would seek to have an appraisal of your company’s equipment. In some cases, appraisals are required for tax or insurance purposes, or can simply be an opportunity to shed light on new opportunities for internal growth. There is more than one way of performing an appraisal, and the sales comparison approach remains one of the best in pricing machinery specifically.
Appraiser Performing Sales Comparison Approach
Another important element to properly utilizing the sales comparison approach is hiring an appraiser with plenty of experience in the market or industry you are working in. The appraiser’s experience is important when it comes to understanding different nuances in machinery appraisal as well as different brands, models, conditions, and the ability to adjust valuation accordingly.
Benefits and Disadvantages
As previously stated, the sales comparison approach is a widely used method and can be applied to different industries and practices. However, there are certain benefits and disadvantages to using any method in machinery pricing, and this is no exception.
The most predictable indicator for items with established markets.
Uses real data and recent sales to reach conclusions about valuation.
More accurate measurement of value by taking age, depreciation, condition, model, brand, and other similar adjustments into account.
Some rare items simply have no comparable sales, rendering pricing valuations and adjustments completely subjective.
Not all sales are recorded, and even recorded sales are not always recorded accurately or with all the necessary sales data.
Relative to the market. If the market suffers any kind of major loss for external reasons, this entire method would be up ended.
It is particularly important to learn about the different methods of pricing in the appraisal process. If you or your company decides to price your machinery using the sales comparison approach method in pricing machinery, make sure that you have enough data and similar past sales to refer to for the appraisal. It is also advised to find a certified equipment/machinery appraiser who has sufficient experience with the industry you work in.