Value-In-Use; Value-In-Exchange

The Practicality of Value-In-Use and Value-in-Exchange.
A visual and cognitive example of value-in-use is equipment installed in a manufacturing plant, and operating. Conversely, for value-in-exchange, what could the same item sell for removed from the installation; compared to other like and kind items?

Value-In-Use:
For value-in-use consider a dust collector, installed in southeastern U.S. pipe plant.
Estimated 1200 SF Area.

The dust collector is part of a working plant. For value-in-use, beyond the original cost of the unit there is added value for the freight, taxes and installation cost, including the ducting, drives, electrics and controls.
The considerations of value-in-use are: Physical Condition, Functional Obsolescence and Economic Life.

Given the location in an aggressive environment, the paint is worn from the collector. The heat through the system; the weather and the plant atmosphere have also eroded the galvanized duct work.

The dust collector has been installed and in use for fifteen-years. The structure shows serious physical depreciation. Again, the factors of depreciated value are:
· Obvious physical wear and tear. Judging from the exterior, what could the interior be like?
· Functional and environmental: Is the collector still up to standards or is it leaking into the atmosphere?
· Is the item still mechanically functional?
· What is the physical life of such a unit in such a place? For a valuation would we consider any published life expectancy guidelines? Is the reported physical condition based on the appraiser’s experience of having seen similar units? Should the appraiser ask the manufacturer or another expert about expectant life of such a collector?
· Functionally, is the collector 100% or has a new technology replaced any part of the unit? For this example, does the collector still use socks or another type of filter media? Are the drive and controls energy efficient?
· Economically, does it cost more to operate the collector than current models? Does the collector require constant maintenance?

For this example, the plant is still operational and the owners want to know Fair Market Value-In-Use. An appraiser will consider the replacement cost new (RCN) including the value added transportation and installation costs, less depreciation from all causes.

Therefore, assume the following hypothetical information. The numbers are examples and are not exact.

1. The equipment was purchased new fifteen-years ago, at a historical cost of: $18,500. The square foot of filter area is approximately 1200 SQ. FT. This is $15.42 per square foot.
2. The current trended reproduction cost from historical book value is $18,500 trended to a current $22,000 or $18.33 per square foot.
3. The manufacturer’s price for an updated unit is $25,000, or $20.83 per sq. ft. The newly manufactured unit will probably have some upgrades. For this example the trended number and the manufacturer’s new price average $22,000+$25,000/2 = $23,500. This is a combination of trended historical and current cost. This averages to $19.58 per square foot, which may account for some technical difference between the old and new technology. Or the appraiser can use the trended reproduction cost or replacement cost new only depending on the purpose of the appraisal.
4. Add current freight, taxes, electrical and ducting. For purposes of this example I’ve added 30% of cost, $7050 or a total installed cost of $30,550. Realistically the added value costs could increase greatly because of location, material and labor costs.

For booking purposes the company may have capitalized the entire installation or maybe expensed the installation cost. This is important to know if the appraiser intends to trend historical cost. For this example, the dust collector was written-off five years earlier and has zero book value. This has nothing to do with actual market value.

For Value-In-Use, how does an appraiser estimate life and depreciation? Possibly, the inspection or a recognized “life expectancy table” may influence the appraiser’s opinion that, on the date of the appraisal, the installed unit has ten-years of life remaining. For the example, I have given the installation a twenty-five year life and the current replacement cost total is $30,550.

At current RCN including value added costs or $30,550, depreciated by fifteen-years, or $30,550/25 = $1222 per year or $30,550 - $18,333. Then, is the Value-In-Use or Cost Less Depreciation value $12,217?

It is helpful to think of equipment by measured capacity or volume. That is units of measure, i.e. square foot of surface, cubic ft., horse power, BTU or hourly capacity. Using the example above, $12,217/1200 sq. ft. area = $10.18 per Sq. Ft., installed. We can use capacity costs over a range of sizes to extrapolate both cost and value. This is useful later when we compare Value-In-Use against Value-In-Exchange.

The appraiser wants to consider for value-in-exchange if the used equipment will be installed. The above example is $10.18 installed. There is a value added cost of 30% or $3.05 per sq. ft. for installation. Value-in-exchange may be $10.18 - $3.05 per sq. ft. or $7.13 per sq. ft.

Keep in mind that it may cost as much to install a used piece, maybe more, as it will cost to install a new item. It is also helpful to understand that in the past, the economy of scale is that cost per square foot comes down as the overall size increases.

Value-In-Exchange:
Continuing to use the example above of 1200sq. ft. x $10.18 - $3.05 = $7.13 or $8532.00. Is the value-in-exchange $8532.00?

What is value-in-exchange but the market value? What would a knowledgeable buyer buy the collector for and what would a knowledgeable seller sell the used collector for in an open market?

Here are some considerations when a knowledgeable buyer wants this dust collector:
What is the apparent physical condition of the collector?
Does the collector meet the expected capacity?
Does the collector meet EPA standards?
Does the collector need refurbishing and new filter media?
Will the buyer want to install new ducting and controls?
What is the cost of removal or will the plant remove the collector and lift onto the buyer’s conveyance?
How far will the collector have to travel? This is a large collector. Are special travel permits needed?
What will it cost to install at the new location?
Is the buyer a speculator thinking they could resell this item to their customer? Therefore, there is no consideration for new ducting or controls unless the seller is also the installer.
10.Will the buyer have to pay sales taxes on this used collector? This will depend on if the buyer is in-state or out of state and the selling states tax laws.

What if this size and type of dust collector were available somewhere else from a dealer?
Consider this:
1. A dealer has already thought like the end user when they acquired the dust collector. In today’s volatile and questionable markets, the collector was possibly a consignment or a residual from a complete deal.
2. Will the dealer or seller have to repaint or repair the dust collector to make it marketable?
3. Will the dealer or seller offer the collector “as is?”

Whatever the seller of the used equipment decides it all has to do with what they think that the market will tolerate. Here is the economic consideration of supply and demand at work.
For this example assume that manufacturing is viable and that there is a market for a used dust collector this type and size.

It is easy enough to find dust collectors but not always the exact capacity. This is one reason we consider units of measure on some manufacturing and process equipment. A valuation is a group of comparisons and averages influenced by condition, location and demand.
For this example I’ll use a recent market offering from a used machinery dealer.

Dust Collector by Schick, 1200 SF, 10 HP Blower, Cone Bottom.
Location: Southern CA.

Dealers will know that the replacement cost for our example is $18,000 to $22,000 with no value added costs or accessories.

If there is a potential market for the used dust collector, and the equipment is in salable condition, expect to see the asking price about 35% to 50% of the replacement price or in the range of $6300 to $10,000 – or higher if the collector is late model and very good condition. There is no consideration here for what the speculator paid for the used collector and their handling costs. Also, is a used collector with old technology? Maybe the seller is open to offers. Is this in line with Value-In-Use less the installation costs?

The used equipment dealer quotes $6,750 for the collector. It is in the sq. ft. range of the first example at $5.63 per sq. ft. For example only, this is in the 30%+ range on the replacement cost new.

The reality is that one sale doesn’t make a comparable market example. However, for this demonstration I chose only one comp. Normally the appraiser will check a range of comps.

Because the collectors in the examples are sock type, there could be some discounting because popular filter media today may be a replaceable cartridge or another collection system.

In comparing the used equipment installed and similar used equipment on the market at the time of the appraisal the estimated value in place may be low or it could be very reasonable. Because a knowledgeable buyer may negotiate the dealer’s asking price or ask for other non-monetary but other value added considerations.

Therefore, the example may demonstrate why appraisal is still an art, an opinion based on fact; not a science. Also, to reiterate, a number of offers and sales may compare or extrapolate completely different range of numbers.

The numbers I put in for examples are not correct, but, guesstimates based on past sales and appraisal experience. In a real assignment the appraiser should check with manufacturers and equipment dealers.