When planning to sell your company, it’s critical to evaluate its value before embarking on the M&A process. There are several methods for determining the worth of a company, as well as numerous reasons for doing a business valuation. Here is a detailed explanation of the company valuation process, including popular valuation methodologies, when and why a valuation should take place, and topics to think about after a business valuation. What is Share Valuation Valuation of shares is the process of knowing the value of a company’s shares. Share valuation is done based on quantitative techniques and share value will vary depending on the market demand and supply. The share price of the listed companies which are traded publicly can be known easily. But w.r.t private companies whose shares are not publicly traded, valuation of shares is really important and challenging. When is Valuation of shares required One important reason is when you are about to sell your business and want to know how much it is worth. When you approach your bank for a loan with shares as collateral, Merger, acquisition, reconstruction, amalgamation, etc. – share valuation is critical. When your company’s shares are to be converted, i.e., from preferred to common stock, When implementing an employee stock ownership plan, valuation is required (ESOP) For tax assessments under the acts imposing the wealth tax or the gift tax In the event of a lawsuit, where share valuation is legally required Shares owned by an investment company The company is nationalised to compensate the shareholders. Even publicly traded shares must sometimes be valued because market quotations do not always reflect the true picture, or large blocks of shares are being transferred, and so on. How to choose the share valuation method i. Assets Approach If a company is a capital-intensive company and invested a large amount in capital assets or if the company has a large volume of capital work in progress then an asset-based approach can be used. This method is also applicable for valuing the shares during amalgamation, absorption or liquidation of companies. ii. Income Approach This approach has two different methods namely Discounted Cash Flow (DCF) or Price Earning Capacity (PEC) method. DCF method uses the projection of future cash flows to determine the fair value and if this data is reasonably available, DCF method can be used. PEC method uses historical earnings and if an entity is not in the business for a long time and just started its operations, then this method cannot be applied. iii. Market Approach Under this approach, the market value of the shares is considered for valuation. However, this approach is feasible only for listed companies whose share prices can be obtained in the open market. If there are a set of peer companies that are listed and engaged in a similar business, then such a company’s share public prices can also be used. What are Methods of Share Valuation There is no single valuation method that will fit all purposes; thus, different methods of share valuation exist depending on the purpose, data availability, nature and volume of the company, and so on. Asset-based: This method is based on the total value of the company’s assets and liabilities, including intangible assets and contingent liabilities. This approach could be very useful for manufacturers, distributors, and other businesses that use a large amount of capital assets. This approach is also used to confirm the conclusions reached through the income or market approaches. The value of each share is calculated by dividing the company’s net asset value by the number of shares. The following are some key points to consider when valuing shares using this method: All of the company’s assets, including current assets and liabilities such as receivables, payables, and provisions, should be considered. Fixed assets must be valued at their realisable value. The valuation of goodwill as an intangible asset is critical. Unrecorded assets and liabilities must also be considered. Preliminary expenses, discounts on shares and debentures, accumulated losses, and other fictitious assets should be eliminated. Income-based: When valuing a small number of shares, this method is employed. The emphasis here is on the anticipated benefits of the business investment, i.e. what the business generates in the future. A common method is to calculate a company’s value by dividing its expected earnings by a capitalization rate. DCF and PEC are two other methods that are used. PEC can be used by both established and newly established businesses, and companies with volatile short-term earnings expectations can use more complex analyses such as discounted cash flow analysis. The value of a share is determined by the amount of profit available for distribution by the company. Deducting reserves and taxes from net profit yields this profit. The steps for calculating the value per share using the income-based approach are as follows: Obtain the profit of the company (available for dividend) Obtain the data on capitalised values. Calculate the share value (capitalised value divided by the number of shares) Market-based: The market-based approach typically employs comparable public company share prices and comparable private company asset or stock sales. Private company data can be obtained from a variety of proprietary databases available on the market. What is more important is how to select comparable companies – there are numerous factors to consider, such as the nature and volume of the business, industry, size, financial condition of the comparable companies, transaction date, and so on. When using the yield method (Yield is the expected rate of return on investment), there are two options, which are explained below: Yield on Earning: Shares with an earning yield are priced based on predicted earnings and the average rate of return. Yield on Dividend: With this approach, the predicted dividend and the average rate of return are used to evaluate the shares. Some different aspects of valuation, the company needs to consider at the time of issue/transfer of shares With the rise of start-ups, we are seeing an increase in corporate activities such as fund-raising, secondary sale of
