Valuation methods explained: market, income and cost approaches
By PMCEPC (NEEV INTERNATIONAL) · Updated
How property, plant, machinery and business valuations are done: the market, income and cost approaches, and how to choose between them.
Start with purpose and basis of value
A valuation is only meaningful for a stated purpose, on a stated date and on a stated basis, such as market value or fair value. A figure prepared for a bank loan, a sale negotiation, insurance cover or financial reporting can legitimately differ, so say what the number will be used for before work begins.
The market approach
This approach compares the asset with similar assets that have recently sold or been offered. Adjustments are made for location, size, age, condition and terms. It works well where there is active trading evidence, such as residential and commercial property, vehicles or common machinery.
The income approach
Here the value comes from the cash the asset is expected to produce. Income-producing property is often valued by capitalising net income at a market yield, while businesses and projects are usually valued by discounting forecast cash flows at a rate that reflects risk. Results are sensitive to forecasts and the discount rate, so assumptions must be explicit.
The cost approach
The cost approach estimates what it would cost to replace the asset today, then deducts depreciation and obsolescence. It is common for specialised plant, industrial buildings and assets that are rarely sold in the open market. Reliable replacement cost data and a sound view of remaining life are essential.
Choosing and cross-checking
The asset and the available evidence decide the method. Where possible, apply a second method as a check and explain any gap. Land in India, for example, may also have an official circle rate used for stamp duty, which is a separate measure from market value.
What a good report shows
Look for the purpose, the date, the basis of value, the method and why it was chosen, the evidence, the assumptions, any limitations, and the signatory's details. A report without these cannot be tested by a lender or auditor.
Frequently asked questions
Which method gives the highest value?
No method is inherently higher. Differences come from assumptions and evidence, which is why the method and reasoning must be shown in the report.
Do I need an inspection?
For most assets, yes. Physical condition, specification and use affect value, and an inspection or a documented verification supports the conclusion.
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