Businesses are created to bring together diverse resources and generate synergies that will be realised in jointly produced cash flows. While businesses typically acquire assets separately, they realise benefits from them jointly. If no synergies were anticipated, there would be no point in bringing resources together in the first place. As a result, combinations of resources where synergies are believed to exist typically command a higher price when sold jointly than they would when sold separately. This creates a problem for example for the fair value and realisable value bases, which typically look at the amounts that could be realised from the disposal of separable assets.
Consider the case of an item of plant that could be dismantled, which forms part of a process within a factory that contains a number of processes, where the factory belongs to an operation that has a number of different factories, and the operation itself forms just one division of a company, which is part of a larger group. From the point of view of the group accounts, there are various layers of separability in this example:
- The dismantled parts of the item of plant;
- The item of plant;
- All the plant for the process;
- The factory;
- The division; and
- The company.
The usual answer to the question ‘What is the separable asset?’ would in this case be: the item of plant.
However, as all six layers of assets below the level of the group itself are capable of being sold separately from the group, it is not clear by what logic this is the correct answer.
One area where the problem of jointness causes particular problems is in the valuation of brands. It is extremely difficult in practice, and will often be impossible, to separate the value of a brand from the value of the business to which it belongs. As one brand valuer has commented: ‘People clearly don’t buy and sell brands, they buy and sell businesses’. Nor can the cash flows attributable to a brand be separated objectively from those attributable to a business’s other assets. However, whilst it might be argued that a brand could not be a separable asset for accounting purposes, it is unclear why a business that includes a brand could not be.
What is more, if the business as a whole makes sense (i.e. its owners would not be better off if it were taken apart), there are synergies at each layer of the hierarchy of separability described above. It would therefore be expected that:
- The value of the item of plant would be greater than that of its dismantled parts sold separately;
- The value of all the plant for the process would be greater than that of its component items of plant sold separately;
- The value of the factory would be greater than that of its component processes sold separately;
- The value of the division would be greater than that of its component factories sold separately;
- The value of the company would be greater than that of its component divisions sold separately; and
- The value of the group would be greater than that of its component companies sold separately. Determination of separable assets
In view of this, while it is natural to focus on the individual-item-of-plant level when applying historical cost measurement, why is this sensible when measuring fair value or realisable value, when this will usually be an uneconomic level of separability at which to dispose of a business’s resources? Determination of separable assets
The choice of one level rather than another is arbitrary and appears to defy objective resolution. Determination of separable assets
Other bases of valuation are forced to consider higher levels of aggregation:
- Value in use looks at the future cash flows attributable to assets. Because cash flows are typically produced by assets jointly, the value in use basis is appropriately applied to income generating units – businesses or business units. If value in use were to be used as the general basis of financial reporting measurement, it should logically require a change in the items recognised in financial statements. Accounts would measure income generating units rather than separable assets and liabilities.
- Value to the business also faces a jointness problem in determining replacement costs. This problem does not arise where, for example, an asset would be replaced by an identical asset – and in practice this may often be the case. However, in other cases, replacement cost measures the cost of replacing service potential – ie, outputs – and the outputs that represent service potential are typically produced by assets jointly. So looking at the replacement cost of assets individually may be misleading. In these circumstances, the most appropriate figures for replacement cost are those of service/output-generating units or businesses. Where assets at a lower level of aggregation do not have a measurable service potential, any attribution of service potential to individual assets would involve a judgmental allocation. Determination of separable assets