Descriptive Statistics: DMDM

What is market value? Business appraisers encounter many different definitions of market value. These include "fair market value," which can be defined and interpreted differently by various authorities for various purposes; also "fair value," "investment value," etc.

Fair market value has been defined as "the price at which the property would change hands between a willing buyer and a willing seller when the former is not under any compulsion to buy and the latter is not under any compulsion to sell, both parties having reasonable knowledge of relevant facts."

Businesses are not actually bought and sold based upon this premise of value. They are bought and sold based upon imperfect information, risk perceptions and tolerances of different individuals, compulsions and behavioral characteristics of different individuals, synergetic possibilities, etc.

In reality, fair market value is somewhat of an "equitable" and "hypothetical" concept.

An appraiser attempting to determine the fair market value of a subject business by reference to a market place in which businesses are sold based upon a different premise of value further appreciates the inaccuracy of the business appraisal process. This premise of value is probably investment value.

Small to medium sized closely held businesses are less likely to sell for a price approximating fair market value than are large closely held businesses.

Value, or fair market value, for a certain type of business is obviously not a solitary point estimate. For example, all dry cleaning businesses do not sell for 80 percent of annual sales. Fair market value is a range of possible values. Notwithstanding this fact, appraisers are engaged to determine a point estimate of value, or "the value."

A survey of IBA members indicated that most members believed that a well-done appraisal was accurate within a range of 15 percent to 25 percent of the indicated value.

Fair value is a legal, not an economic, concept which is regularly used in minority oppression and dissident shareholder proceedings. It is defined by state statute differently in various states.

Investment value is value to a specific investor, or purchaser, based upon the specific purchaser's wants, needs, synergies with the business being purchased, etc.

The IBA Transaction Database contains "market value" information which can be utilized to evaluate any standard of value - fair market value, fair value, investment value, etc. Measures of central tendency and measures of dispersion can be calculated for given types of businesses in the IBA Transaction Database. Common measures which can be calculated for either the P/E or P/G multiples reflected in the IBA Transaction Database include the following:

The mean: measure of central tendency

The standard deviation: measure of dispersion

Coefficient of variation: measure of dispersion
The example problems which are included in this series of tutorials utilize these concepts.