CA SUJAL SHAH 22 nd June 2013
Value Price Valuation-not an exact science, more an art Value varies with situations Date specific
Purchase / Sale of Business Merger/ Demerger Private Equity Buyback of Shares Test of Impairment/ IFRS Why Valuation? IPO/ FPO Family Separation Litigation PPA Regulatory Approval Portfolio Value of Investments
M & A Acquisitions Mergers Demergers Others Asset Purchase Share Purchase Subsidiarisation Capital Reduction Buy-Back Slump Sale Itemized Sale
Obtaining information Management discussion and industry overview Data analysis and review Selection of method Conducting sensitivities on assumptions Assigning weights Recommendation Reporting
Earnings Based Approach Discounted Cash Flow Method Earnings Multiple Method Market Approach Market Price Method Market Comparable Asset Based Approach Net Assets Method Replacement Value/ Realisable Value
Historical data such as audited results of the company Future projections Stock market quotations Discussions with the management of the company Representation by the management Data on comparable companies Market surveys, news paper reports
SWOT Analysis Profitability Analysis Past and vis-à-vis industry Ratio Analysis P&L Ratios Expenses and Profitability ratios Balance Sheet Ratios Turnover Ratios Liquidity Ratios Debt Equity of Company & Industry
Values a business based on the expected cash flows over a period of time Involves determination of discount factor and growth rate of profitability Value of business is aggregate of discounted value of the cash flows for the explicit period and perpetuity Considers cash flow & not profits
Cash Flows Projections Horizon Period Growth Rate Discounting Cost of Equity Cost of Debt Weighted Average Cost of Capital ( WACC )
Most appropriate for valuing firms: Limited life projects Large initial investments and predictable cash flows Regulated business Start-up companies
Commonly used Multiples: Price to Earnings Multiple Enterprise Value / EBITDA Multiple Parameters: Capitalization Rate / Multiple Future Maintainable Profits
Multiple to be applied represent the growth prospects / expectations of the Company Factors to be considered while deciding the multiple: Past and Expected Growth of the Earnings Performance vis-à-vis Peers Size & Market Share Historical multiples enjoyed on the Stock Exchange by the Company and its peers
Evaluates the value on the basis of prices quoted on the stock exchange Thinly traded / Dormant Scrip Low Floating Stock Significant and Unusual fluctuations in the Market Price It is prudent to take weighted average of quoted price for past 6 months Regulatory bodies often consider market value as important basis Preferential allotment, Buyback, Takeover Code
Generally applied in case of unlisted entities Estimates value by relating an element with underlying element of similar listed companies. Based on market multiples of Comparable Companies Book Value Multiples Industry Specific Multiples Multiples from Recent M&A Transactions.
Total Assets (excluding Miscellaneous Expenditure and debit balance in Profit & Loss Account) Less: Total Liabilities NET ASSET VALUE OR Share Capital Add: Reserves Less: Miscellaneous Expenditure Less: Debit Balance in Profit & Loss Account NET ASSET VALUE
Investments Surplus Assets Auditors Qualification Preference Shares ESOPs / Warrants Contingent Liabilities Tax concessions Findings of Due Diligence Reviews
Income Tax Valuation of shares and securities u/s 56 of IT Act, 1961 in special circumstances FMV of shares & securities to be determined in accordance with Rule 11UA Transfer Pricing Arms length price to be determined as per any of the recognized valuation methodologies FEMA Fair value using DCF method, as per the RBI s Notification No. RBI/2009-10/445 A.P (DIR Series) Circular No. 49 dated May 4, 2010
Sec 56(2)(vii) Where a firm or a private company receives any property, being shares of a private company without consideration or with inadequate consideration (i.e. less than FMV), FMV of such shares to be computed in accordance with Rule 11UA (given below) Quoted shares - lowest price of such shares quoted on any recognized stock exchange on the valuation date Unquoted equity shares value as computed under option (a) or (b) below at the option of the assessee a) Net worth of the company after making adjustments as specified in Rule 11UA; or b) FMV as determined by a merchant banker or a chartered accountant as per the DCF Method.
Investment in Indian Co Fresh Issue Transfer of Shares Listed on SE (Quoted) Unquoted Listed on SE (Quoted) Unquoted As per Listing Guidelines Of SEBI Value as per DCF Method as certified by a Merchant Banker or a CA As per Listing Guidelines Of SEBI DCF Method Certified by a Merchant Banker or a CA
Direct Investment Outside India Investment > USD 5 Million Investment < USD 5 Million Fair Valuation by Category I Merchant Banker registered with SEBI or Investment Banker / Merchant Banker registered in target country Fair Valuation by a CA or a Certified Public Accountant (CPA)
Intangible assets are assets that do not have physical substance Individual assets may be grouped into a single asset provided: The Individual assets are Complementary in nature Individual Fair Values are not reliably measurable Their assessed useful lives are similar e.g. Brand = trademark, logo, recipe formula etc. Intangible assets are often hard to separate due to their interconnectivity
Contractual Legal Criteria Based on the Contracts: Supplier Contract, Customer Contract, Rental Contract Based on the Legal Rights: Patent, Trademark Separable Criteria Separable individually from entity / separable in combination along with other assets Capable of being sold, transferred, licensed, rented, or exchanged e.g. Process Know-how, Customer Lists, Unpatented Technology
Marketing Technology Contract Customer Artistic Trademarks, Patented Licensing, Customer Plays, operas trade names technology royalty Contracts Trade dress (colour, design) Internet domain names Non-compete agreements Unpatented technology Computer software Advertising or supply contracts Lease & Franchise agreements Trade secrets Construction permits Customer lists Order or production backlog Customer relationships Books, magazines, newspaper Musical works such as compositions, songs, lyrics, advertising jingles Pictures, photographs Broadcasting rights Sales dealer network Video and audiovisual material
Sale of intangibles Purchase price allocation Impairment Collateral security For JV companies where JV partner brings intangibles as capital contribution Economic damages/lost profits related to infringement, breach of contract, or other commercial litigation
MARKET APPROACH INCOME APPROACH COST APPROACH Market Price on Active Markets Relief from Royalty Method Reproduction Cost Method Comparable Method Incremental Cash Flow Method Replacement Cost Method
Market Price on active markets: Valuation is based on market prices. Requires the relevant asset to have an ascertainable price in an active market. Comparable Method: Price of a comparable market transaction can be used, subject to strict comparability criteria regarding the similarity between two intangible assets. Analysis of similar intangible assets that have recently been sold can be used.
Relief from Royalty Method: Typically employed for valuation of brands and patents Based on the assumption that an external third party would be prepared to pay a license fee for the use of brand or patent that it does not own. Value of the intangible asset is calculated as the present value of the saved license payments. Incremental Cash Flow Method: To determine the difference between the cash flows of the acquired company with the relevant intangible assets and a fictitious company without these assets. Difference represents the additional cash flow related to the intangible asset and discounting this at the asset specific capitalization rate leads to its fair value.
Reproduction Cost Method: Cost to construct an exact duplicate using same materials, production standards and design, etc. Replacement Cost Method: Cost to construct equivalent utility using modern materials, production standards and design, etc.
Selection of methods Loss making companies Start-up companies Difficulty in obtaining comparable multiples Thinly traded/ Dormant Scrip - Low Floating Stock, Unusual fluctuations in Market Price Issues in forecasting Illiquidity discount & control premium
Situation Knowledge based companies Manufacturing Companies Brand Driven companies A Matured company Investment/Property companies Company going for liquidation Approach Earnings/Market Earnings/ Market/ Asset Earnings/Market Earnings/Market Asset Asset Generally, Market Approach is used in combination with other methods or as a cross check
Transaction Structure Procedural and Regulatory Issues Relying on Technical Valuer s Report Joint Reports Fairness Opinion by Merchant Bankers Engagement Letter Management Representations Reporting
Recognition and classification of intangibles Legal ownership of Intangibles Uncertainty with respect to future economic life / obsolescence Determining appropriate royalty rate Measurement of self generated intangibles Market for intangibles does not exist to establish arms length price benchmarks
Country / Political Risk Data Availability Different Accounting Policies Valuation of foreign companies Varied Tax & Corporate Laws Legal Environment Exchange Rate Risk
It is fair to use combination of three well known methods - asset value, yield value & market value Hindustan Lever Employees Union Vs. HLL (1995) 83 Com. Case 30 SC Exchange Ratio not disturbed by Courts unless objected and found grossly unfair Miheer H. Mafatlal Vs. Mafatlal Industries (1996) 87 Com Cases 792 Dinesh v. Lakhani Vs. Parke-Davis (India) Ltd. (2003) 47 SCL 80 (Bom) Valuation will take into account number of factors such as prospective yield, marketability, the general outlook for the type of business of the company, etc. Valuation is an art, not an exact science. Mathematical certainty is not demanded, nor indeed is it possible Viscount Simon Bd in Gold Coast Selection Trust Ltd. vs. Humphrey reported in 30 TC 209 (House of Lords)
Appointed date of implementation of scheme can be different from the date of valuation Sumitra Pharmaceuticals and Chemicals Limited re (1997) 88Com Cases 619(AP) Brands of a company are part of goodwill, cannot be separately valued Brooke Bond Lipton India Limited (1998) 15 SCL 81 (Cal) Valuation job must be entrusted to people who know the Company rather than giving to outsiders who will start from scratch Consolidated Coffee V/s Arun Kumar Agrawal (1999) 21 SCL 11 (Kar) DCF Method is an acceptable method. A combination of methods can be accepted for valuation. Intrinsic value cannot include control premium. Mrs Renuka Datla V/s Solvay Pharmaceutical B.V. & Ors. (2003)
Valuers must keep in mind fairness to all stakeholders Many instances of minority shareholders delaying the merger process Balance needs to be achieved through transparency, fairness and best overnance practices
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