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Asset Revaluation, and Its Influence on Company’s Fundamental

When the Government launched the package V of economic policy, one of the policies is tax incentives for companies that perform asset revaluation. Normally, the company must pay income tax of 10% for the increase in value of assets due to revaluation (the difference between the value of assets before and after the revaluation is considered as corporate earnings), but now the tax is 3 – 6% only. This policy is expected to encourage companies to revaluate its assets such as land, buildings, etc, where the value of these assets will usually rise, and eventually raise the value of net assets/equity of the company as a whole.

And if the net asset value of a company rises, the valuation of its shares, in this case its PBV, becomes lower, so that the stock will have a fundamental reason to rise. The increase in net asset value also caused the ratio of debt to equity to fall, so that the company can apply for a larger loan to the bank for expansion, and for the bank itself it means that its lending will grow, as well as its revenue and net income. Everybody’s happy!

But that is the optimism theory, which is believed by many people only because the Jakarta Composite Index (JCI) was in a very optimistic phase after rallying for more than 10% in last October. I mean, if the JCI was still slumped just like the end of last September, then this Government policy about the asset revaluation will not gain much attention from investors (so there is a psychological factor here). Because if you look closely, the incentive is not so special, because only in the form of income tax cuts from 10% to a maximum of 3% (7% discount), and even the discount is only applied to companies wh have filed the revaluation prior to December 31, 2015. While if the revaluation is filed prior to December 31, 2016, the income tax became 6%, or in other words, the discount is only 4%. If I was a controlling shareholder of a public company, frankly it is not a very attractive incentive because on the other side, the revaluation process itself is not cheap (to pay for appraisal services, etc.). Had the income tax abolished at all, or there was an additional incentive in the form of certain discounts for the process of revaluation etc, only in that way I will perform the revaluation.

By the way, what does it mean to the revaluation of assets?

In accounting, when a company acquires an asset, for example a piece of land, then in the financial statements, the value of the land will be reported in accordance to its acquiring price. So if Ciputra Development (CTRA) acquired the land area of ​​100 hectares in the city of Surabaya worth Rp100 billion in 2005, and until today the land hasn’t been developed, then so be it, in the company's latest financial statements, the value of the land will still be reported Rp100 billion (less or more), although the sale value of the land in 2015 could be increased several fold. If the management of CTRA revaluate the land, its fair/market/current value may increase to say Rp300 billion, which is reported into the financial statements, so that the equity value of CTRA will be increased by Rp200 billion (not including income tax, fee for appraisers, etc).

The question, if revaluation could easily raise the value of net assets/equity, then why does the company do not revalue their assets every year? Well, that's because there are a lot of things. First, the revaluation process was complicated and long (there are many terms and conditions), so unless it is absolutely necessary, management will not perform it.

Second, most companies will only revalue its assets if, 1. the Company will be merged or acquired by another company, 2. The company is in huge debt so that it have to sell one of its assets, and for the purpose of negotiations with a potential buyer, the asset will be revaluated to find its fair value, and C. The company will pledge its assets to obtain loans from banks.

In short, if the owner had never intended to sell or merge the company with other companies, either partly or entirely, and is not having problems with debt, and also not trying to apply for a loan to the bank, then there is no reason to carry out a revaluation. Logically, if the company revalue one of its assets, say a piece of land to so its (reported) value increased from Rp100 billion to Rp200 billion. But because the land is not actually sold at the price of Rp200 billion, the company did not really gain any money, while on the other hand it should pay taxes, etc, in cash. So in this case the company is suffering loss instead.

And third, there is a risk of an error in the revaluation process itself, where the new value of assets may not really reflected the actual value and, thus, the company's reputation will be at stake.

But, okay, let's say a company revalue its assets so that its equity/book value increased, thus the share valuation becomes cheaper, and the stock supposedly going up, right? Well, not necessarily. If book value of a company rise while the value of earnings remains, its ROE will dropped, and it would look bad in the investors point of view. At the end, for investors, the important thing is that the company able to generate a large and growing earnings. It is odd if the value of company’s assets suddenly increased because of revaluation while company's earnings stay low. The easiest example is Indospring (INDS), a motorcycle sparepart company which performed revaluation of assets in 2012 and subsequently its book value jumped sharply. But the stock still slumped because of poor earnings of the company, so that the people do not care about the stock despite, in terms of PBV, INDS was very very cheap.

Logo of PT Indospring, Tbk. Believe it or not, currently its PBV is less than 0.1 times.

In conclusion, I don’t think that this Government policy will have much effect on the stock market as a whole, and will soon be forgotten if later the JCI dropped once again.

Actually, this is not the first time where the Govt policy is responded excessively by investors. When the other day the Government released policies of reduction in cement prices, gas prices, the decline in interest of subsidized mortgage and so on, the stocks of related companies dropped heavily, while the policies are not necessarily have a negative impact. On the other hand, when there was a rumor that the Govt, through Aneka Tambang (ANTM) will acquire the divested shares of PT Freeport Indonesia, ANTM stock immediately rose high though later it fell back to even lower positions. But in these cases the investors with keen instinct might gain some profit when they bought a good stock that fell due to government policies that allegedly have a negative impact to the company (I myself quite often to do this), or otherwise, to sell their shares in exorbitant prices when there was a ‘positive’ policy. And the tips to do that: Do not rush, always learn any Government policy in detail and carefully, before take conclusions/decisions. Sound complicated? Well, not really :)

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