CFA Practice Question
The fair value of a firm is
A. always <= its liquidation value.
B. always > its liquidation value.
C. normally > its liquidation value.
Explanation: The fair value of a firm is the higher of the going concern value and liquidation value. It is therefore >= its liquidation value. In generally, it is higher than its liquidation value but sometime it can be equal to it if the going concern value is lower than its liquidation value.
User Contributed Comments 10
| User | Comment |
|---|---|
| turtle | B and C are correct, aren't they? |
| MGM13 | Here is my interpretation. The going concern value can be less than LV (i.e. the firm is worth more broken up and sold off than staying together and continuing to operate). IF GCV is less than LV, then "fair" value for the firm would be LV. So, by default, does this make B correct, but not C? Anyone? |
| mbuechs2 | I agree with turtle. A firm cannot be worth less than its liquidation value (otherwise it is liquidated). On the other hand a shareholder owner perspective might not give the owner the right to liquidate the assets. That is probably the reason why C is perceived as correct. |
| johnsk | the fair value can be less than the liquidation value. i.e. a firm is losing money badly. |
| danlan2 | Check the notes, fair value is the higher of liquidation value and going concern value, so only C is right. |
| volkovv | Her is the reasoning why C is a correct and B (even though correct in most cases) can be incorrect. Fair value is the price at which an asset (or liability) would change hands between a willing buyer and a willing seller the former is not under any compulsion to buy and the latter is not under any compulsion to sell. Lets assume that such price is $100. Now, liquidation value is a value of the company if it was dissolved and its assets sold individually (sold individually is a key word here). Now suppose that this company owns 2 plants, even though nobody wants to buy the whole company, those 2 plants may be of ineterest to two different investors, and one is willing to pay $50 for one and the other is willing to pay $60 for the other. In this case liquidation value (if the assets are sold separatelly) will be $110, which makes fair value < liquidation value and invalidates B. |
| ostrich | Umm, I don't understand your explanation Voltorg. FV can be lower than LV if controlling interest does not plan to liquidate despite this destroying value. |
| celtsfan5 | fair value is irrespective of market price. Thus fair value is always => liquidation value even when market price is not. Market Price is normally >= liquidation value while fair value is always >= liquidation value. |
| StJohnDale | I think the play on this question revolves around >= as apposed to >. I think - fair value is always >= its liqidation value. Option B doesn't have the = leg in it. Thoughts? |
| somk | too much empty rhetorics. B is wrong bcoz it doesnt have =. reviewing some of the remarks, i think 40% CFA success rate is very high. |