investing in texas real estate

How to value business assets

Everyone wants to minimize taxes. Businesses do too. Figuring out how to avoid paying excessive property tax can be as challenging as determining legitimate ways to reduce one’s income tax.

Appraising property is complicated, especially because intangible property (assets that are not physical, such as patents, goodwill or business expertise) is exempt from ad valorem taxes. Appraisers must decide how much of a business’ income can be attributed to its tangible assets, which are taxable, and how much to its intangible assets, which are not.

Dr. Charles E. Gilliland, research economist with the Real Estate Center at Texas A&M University, says judging from industry reports, courts remain confused about the sources and nature of business enterprise value.

Appraisers could look at a firm’s income stream and use that to estimate the value of the firm’s physical assets. But that approach does not give credit to the business’ unique model, plan or management.

If the physical assets were sold to another company that lacked the same business know-how, would they generate an equal amount of income? Probably not.

Intangibles add value to a business beyond the combined value of its physical assets.

Consider the case of a firm operating two chains of oil terminals — one stretching from the Gulf Coast to Memphis and the other from Ohio to the Atlantic. Suppose the firm then buys three terminals that will link the Atlantic chain with the Gulf Coast chain. Now it can move oil from the Gulf Coast to the international market in New York.

Prices paid for the three terminals exceed the normal market prices. Why? Because those terminals complete a network and give the firm a stronger position in the petroleum market.

The excessive price reflects the value of those last terminals to that particular business enterprise, not their value on the open market.

So part of a company’s value comes from its business model, an intangible asset.

Out of necessity, appraisers have come up with various methods of determining the value of intangible business assets.

The Appraisal Institute has begun to weigh in on the topic of intangibles but which method should be used remains controversial. As a result, courtroom confrontations are common.

“Careful analysis and documentation of value estimates need to be combined with a lucid defense of the methods and data used,” Gilliland says. “The argument should explain why the enterprise enjoys or does not enjoy a unique advantage and how long that advantage will persist.”

To learn more about this topic, see Gillilands ’s article “Valuing business intangibles ” in the October 2003 issue of Tierra Grande magazine online at the Real Estate Center.

The Real Estate Center has been providing solutions through research for more than 30 years. Funded primarily by Texas real estate licensee fees, the Center was created by the state legislature to meet the needs of many audiences, including the real estate industry, instructors, researchers, and the general public.