How to Find Fair Market Value or FMV
Fair market value represents an asset’s price under certain sets of conditions.
When it comes to public corporations, the fair market value of stock is public and in most cases, is regulated by the market. In private corporations, the fair market value of shares is the generally accepted present value of a private company’s stock’s single share. Generally, third party appraisers are responsible to determine the fair market value of this stock. It shows the potential worth of the stock market in the open market.
Whenever someone sets out to find out a public company’s stock value, they go online for checking the shares price in the open market. However, things are vastly different when it comes to private organizations. Why? Because private corporations first have to find out their common stock’s fair market value under 409A.
Fair Market Value or FMV for Company Stock
At its core, the FMV or fair market value, is an asset’s potential price in the open market. Fair market value represents an asset’s price under certain sets of conditions. Let us take a closer look at what the fair market value of stock is in greater detail.
What is Fair Market Value or FMV for Company Stock?
As mentioned earlier, the fair market value constitutes an assets price under certain conditions which are:
- The prospective sellers and buyers have basic knowledge regarding the asset
- They behave for their best interest
- There isn’t any undue pressure for trading
- People get a reasonable amount of time for completing transactions
Keeping these conditions in mind, the fair market value of an asset should highlight an authentic assessment or valuation of its worth. Real estate and tax law use this term quite regularly. It is a major reason why it is so distinct from terms like appraised value or market value, which are quite similar. This is because FMV takes into consideration the economic principles pertaining to open and free market activity.
However, when you talk about the simple “market value” it just refers to an asset’s price in a marketplace. So, while you can easily find the market value of a home in a listing, determining its fair market value can be far more difficult. Similarly, when we talk about terms like “appraised value”, it refers to the value of an asset in a single appraiser’s opinion. Therefore, it does not immediately qualify the appraisal as FMV. In any case, this is where a fair market value proves to be essential. However, merely an appraisal could also suffice.
Why is Fair Market Value Important?
Fair market value of shares comes in handy for a variety of reasons. For instance, they are critical for assessing an individual’s property taxes. Depending on the amount of time someone owned the property, the difference between the property’s fair market value and purchase price can be substantial. In many cases, pro appraisers utilize guidelines, standards, along with local and national regulations for determining a house’s FMV.
Fair market value’s importance is also prevalent in the insurance landscape. For example, if someone makes an insurance claim because of a car crash, the company providing coverage to the owner’s car generally covers up the damages based on the vehicle’s fair market value.
Let us look at some other reasons why FMV proves its importance:
During events like divorce settlements or payment of damages where there is damage caused to someone’s private property, the asset’s fair market value becomes pivotal.
Fair market value also proves its worth when determining insurance claim cases. In case an insured car is damaged, the claim will be proportional according to the vehicles present fair market value and not the rates in which the car was initially purchased.
Assessing property taxes also requires the use of fair market value. You’d be surprised to learn that there are tax deductions also present on asset depreciation and casualty loss. When it comes to charitable donations, however, the donation’s FMV is utilized for tax reasons. So, taxpayers will be well within their rights if they claim tax credit for their donation’s fair market value.
The procedure of discovering the price used by most pros in situations like these is referred to as an “appraisal”. That said, fair market value is massively different compared to appraised value because the latter is a representation of the good’s worth from a single party’s point of view.
Determining Fair Market Value of Private Company Stock
Pros utilize 409A valuations when trying to determine a common stock’s fair market value. Simply said, they control the contractors, price employees, and anybody who obtains common stock has to pay for buying the stock options (also known as the purchase price/strike price).
How do you determine the Fair Market of Stocks?
Strike prices should be greater or equal to the fair market value under 409A valuations. When you are valuing your organization, a 409A valuation provider generally looks at a variety of factors, which include:
- The overall worth of your assets
- The current worth of the future cash flows
- The amount of a common stock’s worth in similar organizations
- Your company’s equity in similar industries or businesses
What is a 409A Valuation?
The IRS section 409A came during 2005, after the infamous Enron scandal. At its core, section 409A is there for offering check and balance. It does this by making private organizations conduct mandatory valuations with the help of a separate third party appraiser. Because of this, the IRS considers 409A’s price to be fair.
This measure is also great for preventing organizations from interfering with the common’s price for their personal gain, for example (cheaper strike prices, cheaper taxes etc.). Any organization with a plan to offer common stock to its workers has to undergo a 409A valuation for avoiding tax penalties imposed by the IRS. Events that generally trigger 409A valuations generally include layoffs, acquisitions, and funding rounds.
Common Valuation Methods (Income/Asset/Market)
There are three main types of valuation methods used by professionals, namely: the income value approach, market value approach, and asset based approach. All of these processes are highly effective in their own ways.
Income Value Approach
In this type of approach, an organization is evaluated mainly for its future earnings potential. While there are plenty of examples to showcase why this method is effective, Capitalizing future earnings would be the best one. This method examines a corporation’s past earnings to project the financial potential for the future.
This approach could come in handy if a strategic investor comes aboard (for instance, Shark tank investors).
Market Value Approach
The market value approach is also quite popular among valuators. This approach represents what buyers could be planning to pay for a company or a portion of it when the seller and buyer have good understanding about the business and don’t have any pressure to sell or buy.
This method allows you to find out a fair value within your market. You can then divide this among the shares for finding out their exact value.
Asset Based Approach
In an asset based approach an organization’s liabilities and assets are added up, which shows the company’s overall value. A valuation like this generally comes useful when someone decides to sell their entire business.
Eqvista 409a Valuation Services
At Eqvista we offer third party 409a valuation services to companies looking to price their stock, either for their founders, new employees, investors, advisors or other purposes. We have certified valuation appraisers with years of experience in valuing companies from different backgrounds, from the medial and professional industries, to software and tech.
Fair Market Value vs. Book Value
Many people wonder what the main differences are between fair market value vs book value. Well, the points mentioned below will help you understand what makes both of them so different from each other.
- Book value represents the company’s net asset value.
- An asset’s book value is present in the balance sheet with amortized cost, historical cost, or even fair value. The market value is a reflection of the asset’s fair value.
- Book values are the asset’s accounting value and don’t carry too much relevance whenever an organization is planning to give away that asset. In contrast, the valuation that market value shows is more accurate during the selling or buying of an asset.
- With the help of book value, you can find out an asset’s actual acquisition cost. Market value, however, keeps you updated regarding market trends happening currently.
- Investors are able to calculate an asset’s book value whenever a corporation offers its earnings reports on a quarterly basis. On the other hand, market value changes all the time.
- Book value equals to the firm equity’s overall value. On the other hand, market value gives you an indication about an asset or firm’s current market value.
- You can use book value to find out an asset’s (owned by a company) actual worth. Market value offers us the asset’s or firm’s projected value.
Interested to know the Fair Market Value of your Company?
The fair market value is basically the price buyers are ready to offer to any willing seller even if they are unrelated. Particular circumstances exist for determining FMV, which is guided by section 409a for private companies. That is why it’s important to gauge a professional valuation provider like Eqvista to find the fair market value of your company.
We provide complete valuations of private companies in any industry, starting at $890 for startups. Contact us today to know more about our 409a valuation services!