Important Role of Insurance Valuation in Assessing Business Health

During assignment for Insurance valuations of fixed assets on re-instatement basis, usually clients ask for report on market valuation basis as well to know the current worth of their business.

In addition, the periodical market value/depreciated replacement cost valuation may be helpful in understanding a company’s overall financial health also for the business owners.

During preparation for ‘Plant and Machinery Valuation certification’, came across the following very important publication, which in my view will be very helpful in understanding the concept presented here:

 STANDARDS ON VALUATION OF PLANT, MACHINERY AND EQUIPMENT, Prepared by CVSRTA Registered Valuers Association & Centre for Valuation Studies, Research & Training Association

In the practical world of business operations—: comprehensive valuations are time-consuming, costly, and require complex inputs that may not be readily available or justifiable outside of key strategic events such as mergers, acquisitions, or financing rounds.

In this context, insurance valuation may offer a more practical and cost-effective alternative that can still serve as a meaningful indicator of business health.

Unlike full enterprise valuation, which attempts to capture the total worth of a business based on future cash flows, market comparables, insurance indemnity valuation focuses on the market (DCR) value of physical and tangible assets. While more limited in scope, this approach may provide insights into the present economic condition of the business, especially when done periodically.

One of the significant advantages of insurance valuation (Depreciated Replacement Cost basis) is that it can be utilized for finding economic obsolescence—a critical element in asset-heavy businesses.

“Economic obsolescence exists, if the economic support for fixed and intangible assets is less than the fractional values of the identified assets, as individually estimated by the depreciated replacement cost or sales comparison methods, as the case may be.

Business enterprise value less net working capital represents the economic support for fixed and intangible assets.

Share Holder’s Equity + Long Term Debt = Net Working Capital (Current Assets - Current Liabilities) + Fixed Assets + Intangible Assets

Followings are readily available from company’s financial reports for the necessary deduction

CA = Current assets

FA = Fixed Assets

IA = Intangible Assets

CL = Current liabilities

 LTD = Long-term debt

SE = Stockholders’ equity

If there is excess economic support for the underlying identified assets, it is concluded that unidentified intangible value exists, which is generally considered to be goodwill or going concern value. 

Once economic obsolescence is suspected, a full business valuation may be initiated with the help of specialist Chartered Accountants and remedial measures undertaken.

In essence, while insurance valuation is not a replacement for full enterprise appraisal, it offers a fair and objective framework for monitoring key indicators of business health. Its periodic execution aligns better with operational realities and can serve as a proactive tool for risk management, strategic planning, and resource optimization.

Important Caveat: It's an Indicator, Not a Substitute

Of course, a DRC-based valuation is not a replacement for a Sales Comparison or full-blown income approach. It doesn’t factor in future cash flows, competitive dynamics, or goodwill. But as a practical, cost-effective tool for interim business checks at the time of insurance policy renewals, it may offer additional utility.

In summary: Think of DRC-based insurance valuations not just as a risk management necessity, but also as a financial wellness tool. When interpreted smartly, they can spotlight trends in obsolescence, underline capital misallocations, and even hint at business’s ability to generate value in today’s economy.

Reference Publication:

STANDARDS ON VALUATION OF PLANT, MACHINERY AND EQUIPMENT, Prepared by CVSRTA Registered Valuers Association & Centre for Valuation Studies, Research & Training Association.

The above interpretation is absolutely personal in nature and is not binding on any individual or organization in particular.