Author

Mr Alexander Demuth

Managing director - A&M GmbH Wirtschaftsprüfungsgesellschaft

Author

Mr Roman Gültlinger

Manager - Alvarez & Marsal Disputes and Investigations GmbH

Editors
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Fair market value

I. Definition

1.

Various authorities provide their definition of the term ‘Fair Market Value’ (FMV).1 These definitions, though similar, are not identical and, therefore, leave some ambiguity regarding the exact meaning of FMV.

2.

A commonly used definition of the FMV is provided in the International Glossary of Business Valuation Terms:2the price, expressed in terms of cash equivalents, at which property would change hands between a hypothetical willing and able buyer and a hypothetical willing and able seller, acting at arms length in an open and unrestricted market, when neither is under compulsion to buy or sell and when both have reasonable knowledge of the relevant facts.”3

3.

Therefore, key features of the FMV of an asset, among others, are that:

  1. the parties involved “do not have a particular or special relationship” (i.e. are acting at arms length);4
  2. the price paid reflects a hypothetical transaction, in which parties are well informed and not under any compulsion to buy or sell;5 and
  3. the property is sold in an “open and unrestricted market” where participants are acting freely and competitively, and where there are no restrictions on the sale of the property.6 In such a market, the FMV of the property “will reflect its highest and best use”, be that for the “continuation of an asset’s existing use or for some alternative use.”7

II. Distinction from other related concepts

4.

The base of value (such as the FMV) must reflect the purpose of the valuation exercise.8 The IVS provides several alternative bases of value, including:

  1. The Equitable Value “requires the assessment of the price that is fair between two specific, identified parties considering the respective advantages or disadvantages that each will gain from the transactions.9 These specific advantages or disadvantages will generally be disregarded in an FMV assessment.
  2. The Investment Value is “the value of an asset to particular owner or prospective owner for induvial investment or operational objectives.10
  3. The Liquidation Value “is the amount that would be realised when an asset or group of assets are sold on a piecemeal basis.11

III. Calculation of fair market value in international arbitrations

5.

There are three main approaches used to determine a FMV:12

  1. The income approach “provides an indication of value by converting future cash flow to a single current value”.13 The income approach (e.g. DCF or Discounted Cash Flow method) is well founded in financial theory and the most commonly used valuation approach.14 It is, however, often rejected by tribunals as too speculative, in particular when historical track records are missing.15
  2. The market approach “provides an indication of value by comparing the asset with identical or comparable […] assets for which price information is available.”16 The most common methods are the comparable transactions method17 and the guideline publicly-traded comparable method.18
  3. The cost approach “provides an indication of value using the economic principle that a buyer will pay no more for an asset than the cost to obtain an asset of equal utility […].”19 Since most businesses are worth more than the sum of their individual assets, the cost approach often provides an indication of the floor of the value of an asset.20

Bibliography

Global Arbitration Review, The Guide to Damages in International Arbitration, 3rd ed., 2018.

International Valuation Standards Council, International Valuation Standards 2017, 2017.

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