What are Surplus Assets and Liabilities in business valuation?
When determining the equity value of a company, a valuer will typically test for the existence of Surplus Assets and Liabilities held by the company.
Surplus Assets are represented by any assets that are held by a business that are not core to its underlying operations and do not support the business in any way. Surplus Assets will typically include:
- Property (such as the premises) that might be held by the business which would usually be valued separately and added to the enterprise value of the business.
- Obsolete assets that may have been originally acquired for the business but have since been replaced or have become surplus to the operation of the business.
- Personal use assets that are not necessary to the running of the business, such as motor vehicles or boats.
- Surplus working capital such as excess inventory and cash.
- Loans to directors or other related parties.
- Investments made by the business that are not core to its underlying operations.
Similarly, when determining the equity value of a company, a valuer will also need to take into account the liabilities of the business. Liabilities that are typically considered and deducted from the enterprise value of the business include:
- Loans owing to related parties.
- Provisions for employee entitlements such as long service leave.
- Any off-balance sheet liabilities such as contingent liabilities that may arise from pending litigation.
Every business that is valued under the capitalisation of future maintainable earnings method should be assessed for surplus assets and liabilities.
The impact of surplus assets and liabilities should be considered at two levels:
Where the entity as a whole is being valued, the value of the surplus assets and liabilities should be added/deducted from the capitalisation of future maintainable earnings calculation to determine the entity value.
If the valuation is for the business assets, surplus asset or liability value is only relevant if the assets or liabilities to be included in the class of assets, form part of the valuation.
Consideration also needs to be given to whether the surplus assets or liabilities have created holding costs for the business. Where these holding costs are identified, they should be quantified and adjusted out of the calculation of Future Maintainable Earnings.