Share valuation or analysis refers to the process of identifying how much a share of the company costs. This analysis is done using quantitative techniques. However, the demand in the market and supply define how much it costs. If the company is listed and trades publicly, its fair price can be discovered easily. The challenges can be more when it comes to finding the share value of private companies. They don’t trade shares publicly. So, it’s not like a walkover to evaluate its exact price.
Here, CAAQ can prove great support. We have a certified team of CAs, CS, and legal advisors to consult with. It comes up with the best solutions for your company’s compliance, especially for share valuation. We have over a decade-long hands-on experience in these consulting services. Hundreds of national and international customers have found us a domain expert.
Requirement for the Valuation of Shares
There are certain situations when this evaluation becomes a must-have. Let’s come across what these scenarios are:
- It’s the time of the merger, reconstruction, and acquisition when you want to discover your business value.
- When you want to raise capital as a loan and keep them as a security
- When you want to sell your business
- When your preference shares need to be converted into equity
- When you need to define an employee stock ownership plan (ESOP)
- When the wealth tax or gift tax requires assessment
- During litigation, your company’s share valuation may be required
- When the buying entity acquires your company’s shares
- For compensating the shareholders at the time of the company’s notarisation.
- Publicly traded shares’ value can also be evaluated if the market quotation does not present the real value of large blocks of shares
Methods of Share Valuation
However, the rule of thumb says that the combination of different methods can provide valuable results. But, this is important to understand every method and approach behind it. Here is how you can choose or select the technique to value shares.
A. Assets Approach
This method basically works in the case of a capital-intensive company. If it has invested a massive amount in capital assets, the asset-based approach is used. It is actually valuable at the time of mergers, acquisitions, absorption, or liquidation of companies.
Manufacturers and distributors can effectively use it because their capital assets (including intangible assets) & liabilities (contingent liabilities) would be more. For calculation, you should focus on the company’s net assets value and number of shares to arrive at the value of each share. Divide them.
Consider these points while evaluating:
- Cover all current assets, and liabilities such as receivables, payables, & provisions.
- Focus on fixed assets at their realizable value.
- Evaluate the goodwill as a part of intangible assets.
- Include unrecorded assets and liabilities.
- Remove fictitious assets, like preliminary expenses, discounts on the issue of shares and debentures, accumulated losses, etc.
- Deduct all external liabilities from the total asset value of the company to find the net value of assets. This formula can help you find it out:
B. Income Approach
There are two ways to define this approach-Discounted Cash Flow (DCF) and Price Earning Capacity (PEC).
The first method involves predicting cash flows in the future. It helps in finding the fair price of shares from the available data. On the flip side, the PEC method is based on the history of earnings. It is applicable to evaluate the values of shares when the business resumes operations after a long time.
This method is perfect for a few shares. It aims at determining the expected benefits of the business investment.
The PEC method is effective for a reputed business entity. A startup business or company with volatile short-term earnings expectations can consider the more complex analysis, i.e. discounted cash flow analysis.
Here, the value of a share is calculated as per the profit of the company available for distribution. You can obtain this profit by deducting reserves and taxes from the net profit. While calculating, you should obtain the following points:
- Company’s profit (dividend)
- Draw the capitalized value data using this formula:
- (Profit available equity dividend/normal rate of return)X100
- Calculate the share value.
C. Market Approach
Here, in this case, the market value of shares is analysed. This is mainly useful to measure the fair-share value of the listed companies only because the open market has it. Basically, this approach has the share prices of comparable publicly traded companies and the asset or stock sales of comparable private companies in a key role.
There is another way. You can consider the share price of the peer companies that are listed and doing the same kind of business. Select this data carefully from various proprietary databases in the market. You should take these things into account, which are the nature and volume of the business, industry, size, financial condition of the comparable companies, transaction dates, etc.
Mainly, there are two different methods used in this approach. Here they are.
• Earning Yield
In this method, the value of shares is decided on the basis of projected earnings and the normal rate of return. This value is calculated using this formula:
Expected Rate of Earning= (Profit After Tax/ Equity Shares Paid Up Value) X 100
Value per Share = (Expected Rate of Earning/Normal Rate of Return) X Paid Up Equity Value
• Dividend Yield
This method helps in computing the value of shares on the basis of projected dividends and the normal rate of return. Here are the formulas to make this calculation easier:
Value of Shares = Annual Dividends Per Share / Current Share Price
Merits of Share Valuation
Here are the advantages of share valuation:
- Quickly Do Stock Analysis
Every method of equity valuation brings different advantages. With balance sheet valuation, one can determine the exact financial status of the company. On the flip side, the discounted cash flow method ensures discovering of the potential for earning. Simply put, these all methods help in drawing the exact and in-depth stock analysis.
- Stock Selection Becomes Easier
Share valuation lets you know the fair-share value of the company. It can be up or down if you compare it with the actual market value. If it is greater than the actual market value, it’s a sign of a good investment option. In short, it helps investors to pick the right share for profit-making.
- Determine Risk Factors
The balance sheet method can help you discover the risky areas, like too high debt, too low liquidity, etc. of the company. Once identified, the investor & business analysts can take necessary precautions to avoid such risks.
- Comparative Analysis
Using the relative valuation method lets you find the value of the stock. It makes the comparison of stocks within the sector and industry easier. Even, the price-earnings ratio of various companies in the sector can be compared. It ensures making informed decisions.
- Measure Corporate Events
There are bankers, corporate analysts, and investment analysts that use valuation methods to determine the impact of mergers, acquisitions, divestitures, spin-offs, management buyouts, and leveraged recapitalization. These events forecast the company’s cash flows and the value of its equity. Once evaluated, investors use their own common stock as the currency for purchase. It also makes it clear if the stock price is reasonable.
- Conclude Market Expectations
Bearish and bullish trends clearly signal the market. Sometimes, these market signals won’t be clear about the market. In this case, the equity valuation is used to find out the fair value of each stock, and also compare it with the prevalent market rates.
CAAQ’s share valuation consultants can assist you in how to defeat challenges involved in share valuation. Connect with our experts digitally to get the best consulting solutions.