Valuation methods can be used for determining share price, mergers and acquisitions, and lending or borrowing funds. Common valuation methods include cost-based methods like net asset value, income-based methods like discounted cash flow, and relative multiples. Discounted cash flow involves forecasting free cash flows, determining the weighted average cost of capital, calculating the terminal value, and discounting future cash flows.
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Valuation methods can be used for determining share price, mergers and acquisitions, and lending or borrowing funds. Common valuation methods include cost-based methods like net asset value, income-based methods like discounted cash flow, and relative multiples. Discounted cash flow involves forecasting free cash flows, determining the weighted average cost of capital, calculating the terminal value, and discounting future cash flows.
Valuation methods can be used for determining share price, mergers and acquisitions, and lending or borrowing funds. Common valuation methods include cost-based methods like net asset value, income-based methods like discounted cash flow, and relative multiples. Discounted cash flow involves forecasting free cash flows, determining the weighted average cost of capital, calculating the terminal value, and discounting future cash flows.
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Download as PPT, PDF, TXT or read online from Scribd
Valuation methods can be used for determining share price, mergers and acquisitions, and lending or borrowing funds. Common valuation methods include cost-based methods like net asset value, income-based methods like discounted cash flow, and relative multiples. Discounted cash flow involves forecasting free cash flows, determining the weighted average cost of capital, calculating the terminal value, and discounting future cash flows.
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Hema Krishnamurthy
For determining the share price for raising
further capital For sale of the enterprise or sale of shares For mergers and acquisitions For strategic sale or purchase of a business For lending or for borrowing funds as debts Valuation is a perception of the value of the firm at a given point in time based on several factors; They include: Industry environment; socio-political
environment; Company specific
Business potential Intangibles – IP, Patents, Technology, Brand Track record Management capabilities COST BASED METHOD ◦ NET ASSET VALUE or BOOK VALUE METHOD ◦ REPLACEMENT COST METHOD ◦ LIQUIDATION METHOD OR BREAK UP VALUE METHOD
INCOME BASED METHOD
◦ EARNINGS CAPITALISATION or PROFITS EARNING CAPACITY VALUE METHOD (PECV) ◦ DISCOUNTED CASH FLOW METHOD (DCF)
TRANSACTION MULTIPLES OR RELATIVE MULTIPLES
Net Asset Value Method ◦ Net Fixed Assets 2000 ◦ Net Current Assets 1500 ◦ Capital W.I.P 500 ◦ Investments at cost 500 Total Assets 4500 ◦ Less : ◦ Revaluation reserve 1000 ◦ Long term liab. 500 NET ASSET VALUE 3000 Replacement Cost Method: ◦ Book values adjusted to reflect replacement cost at current prices Inventories are valued at net realizable value Operating F.A at current replacement cost less depn. Non-operating F.A at fair market value
Break-up Value or Liquidation value:
◦ Market value if sold on piecemeal basis
Problem – Ignores profit earning potential and
value added over years of experience! Goodwill Valuation – Method-I (Super profits) ◦ ROCE = PBIT/ (NFA+NCA) ◦ Ascertain maintainability of profits ◦ Compare with industry std. and other companies ◦ Arrive at normal ROCE ◦ Normal ROCE applied to Company Capital employed =Normal operating profit ◦ Actual profit – Normal op. profit = Super profit ◦ Goodwill = capitalized SP over valuation horizon- no. of years ◦ Alternately – forecast SP and discount at a rate Goodwill – method II ( Normal capitalization) ◦ Normal Capital employed = Normal ROCE/ Act. ROCE x Actual Capital ◦ Goodwill = Actual capital-Normal capital
Final valuation : ◦ Equity Valuation = Asset value + Goodwill – Preference capital ◦ Value per share = Total Equity value/No. of outstanding eq. shares Earnings Capitalization – (PECV) ◦ Average future maintainable post tax profit = 2000 ◦ Capitalization rate considered = 12% ◦ Capitalization factor = 100/12 = 8.33 ◦ Capitalized value of earnings = 2000 x8.33 = 16660 ◦ No. of o/s equity shares = 150 ◦ Value per share = 16660/150 = 111.06 Discounted Cash flow method : ◦ Most popularly adopted method as it captures the cash flow impact of intangibles such as goodwill, brand equity, IP etc.,
DCF determinants are :
◦ Free Cash flow – ◦ Cost of Equity and WACC (Weighted Average cost of capital) ◦ Terminal value of FCF FCF – Free Cash Flow : ◦ Net Operating Cash flow after tax (NOPLAT + Depreciation and w/o s) +/- ◦ Financing Cash Flow +/- ◦ Investment Cash Flow NOPLAT ( Net Operating Profit Less Adjusted for Tax) = EBIT – Tax on EBIT Financing Cash flow = Additional Equity and/or borrowings Investment Cash flow = Capex + Incremental Working capital SAMPLE FREE CASH FLOW STATEMENT Year 1 Year 2 Year 3 Year 4 Year 5 EBIT 1,908 2,756 5,681 7,606 13,222 Less: I Tax 342 614 1,056 1,958 2,983 NOPLAT 1,566 2,142 4,625 5,648 10,240 Add : Depn. 304 362 455 510 543 & w/o GROSS CASH 1,870 2,504 5,080 6,158 10,783 FLOW W.cap. 640 690 1,061 1,548 2,130 Change Capital exp. 385 1,000 1,400 525 1,025 Inter Co. Loan 2,500 0 0 (2,000) 0 GROSS 3,525 1,690 2,461 73 3,155 INVESTMENTS
FREE CASH (1,655) 814 2,619 6,084 7,628
CAPM – Capital Asset Pricing Model – a widely used method
E(Ri) = Rf + [E(Rm) – Rf] Beta of i
Expected return on an investment depends on
The Pure time value of money - as measured by the risk free rate – Rf The reward for bearing systematic risk – as measured by the Market risk premium –[E(Rm)-Rf] The amount of systematic risk - as measured by Beta of the asset, which shows the systematic risk present in an asset, relative to the risk in an average asset Total Risk = Systematic Risk + Unsystematic risk Systematic Risk = Market risk, influences a large number of assets eg. Interest rates, GDP growth etc., Unsystematic Risk = Unique or Asset specific influences a small number of assets Unsystematic risk can be eliminated by diversification; therefore Expected Return on a risky asset depends only on the asset’s systematic risk. Amount Weight Pre- Tax Post Tax WACC age Rate Rate (1- Tax rate)
COST OF DEBT LOAN 1 300 0.25 12% 8.4% 2.1% LOAN 2 200 0.17 14% 9.8% 1.7% COST OF EQUITY PREFERENCE 200 0.17 10% 10% 1.7% EQUITY 500 0.41 15% 15% 6.1% TOTAL 1200 1.00 11.6% * Tax rate assumed = 30% TERMINAL VALUE OF FCF =
discounted at WACC + PV of terminal vlue Useful when DCF is not suitable – where company is small and is yet to establish a pattern of cash flow; or if cash flow is uneven Some parameters that are used :
◦ Sales/Revenue/Gross revenue ◦ EBITDA ◦ PAT ◦ EPS ◦ NAV ◦ P/E of comparable companies
