For those less familiar with or less experienced in the appraisal of inventory, the most difficult factor to conceptualize is how the level of trade issue impacts value. As an example, consider that the consumer who buys a mattress is purchasing a home furnishing, but to the storeowner this mattress was part of their inventory. Storeowners purchase this mattress from distributors, who in turn considered it part of their inventory. Distributors purchase this mattress from the manufacturer, which is where things get a bit more complex. This mattress was part of the manufacturer's "finished goods" inventory, but the manufacturer also maintains other items within its inventory pertaining to this mattress at various stages of completion. This would include "work-in-process”, "raw materials”, "component parts”, “supplies”, and "packaging”. From the manufacturer's perspective all these elements are considered "inventory" whereas, the manufacturer's finished mattress is also considered inventory to the retailer, the wholesaler, and the distributor.
As illustrated, the market value of the same mattress in its finished state depends on the level of trade. Yet, if a nonprofessional where asked what this mattress is worth, they might respond: “Well, I paid $200 for it so I guess it is worth two hundred dollars”. At the same time, a personal property appraiser’s response to this question might be something like “It depends on the value concept”. Naturally both responses are, in a manner, sensible and correct. However, once the appraiser is informed that the value concept is market value, and the approach to value is to be the cost approach, the response should be that the market value may be something less than $200. This is because the experienced appraiser would analyze and consider all forms of depreciation and would consider what level of trade this mattress is to be appraised, because it is not so much a question of “how much” as it is “how many”. As an example, consider the market value of unadjusted cost at each level of trade:
|
Manufacturer |
$80 |
|
Distributor |
$110 |
|
Wholesaler |
$120 |
|
Retailer |
$160 |
|
Consumer |
$200 |
For each level of trade in the example above, the market value, assuming no obsolescence or other factors such as damage, is the cost basis.
Though not always true, a general rule is that the further down the trade chain the larger the quantity, i.e., the more you buy, the lower the price. Therefore, in this example, the same mattress has five market values, which at first glance seems improbable. This is compounded by market analysis, because each party queried would respond with a different opinion of value depending upon the level of trade. So, what is the correct market value? The answer is all five!
The underlying theory behind the statement that all five market values are correct is that in a presumed sale of a mattress inventory, the buyer profile would include only those at the same level of trade, each with their own cost basis. In liquidations, this conceptual maxim is true except with certain retail distribution inventories. It is the competitor, at whatever level of trade, who typically has the financial wherewithal to absorb whatever quantities exist at that level. In other words, the end user has neither the resources nor a motive to buy 10,000 mattresses. The last tier distributor who purchases in 10,000 quantity lots does not have the resources to buy 100,000 mattresses. The first tier distributor who purchases in 100,000 quantity lots is not able to buy at the manufacturing level, i.e., 1,000,000 quantity lots. Any party further back in the chain has already sold the mattress.
