SECURITY AND

BUSINESS VALUATION
(CHAPTER 7)
CORPORATE VALUATION

 Value, value creation, valuation

 Corporate Value vs Investment Value

 Drivers for Value Creation

 Valuation of Security vs Corporate Valuation

 Bond Valuation vs Equity Valuation

 Valuation of Debt Security

 Valuation of a share
 DividendModel
 Market multiples
CORPORATE VALUATION

 Corporate Valuation –
 Methods used are suitable to business valuation
 Net Asset Value / Break-up Value method
 Relative Valuation – using appropriate multiples
and inter-firm comparison
 Earnings Capitalisation method - Profits are
capitalised at appropriate factor
 Discounted Cash Flow method – uses forecasted
free cash flow for valuation as per the principle –
FV = Future Cash Flow / (1+r)n where ‘n’ is the no.of
time periods.
CORPORATE VALUATION
 Asset based Valuation –
 NAV

 Break-up Value
 Valuation of Goodwill

 DCF Valuation
 FinancialForecasting
 Determining Free Cash Flow

 Measuring Cost of Equity

 Measuring Terminal Value of FCF

 FCFF and FCFE Valuation Models

VALUATION APPROACHES

 The Free Cash Flow DCF Model to arrive at

the Fair Value of Share based on financial
forecast for the discrete period and an
estimated Terminal Cash Flow after the
discrete period.
The Free Cash Flow to Equity is arrived at and the Value of
Outstanding debt is deducted therefrom to arrive at the Equity
Valuation. This would be divided by the number of outstanding
shares to arrive at the Value Per Share. This methodology provides
considerable space for the valuer to address qualitative parameters
of the company being valued.
CORPORATE VALUATION
 Relative Valuation –
 EV / EBITDA multiple
 Price – BV Multiple

 Topline Multiple (Sales / Revenue, Turnover)

 PAT Multiple

 Alternative Metrics

 Market Price
 Used for validation of other approaches
 Influences price decision in listed companies

 Weightage may be provided in fair valuation.

VALUATION APPROACH

 Fair Value approach using a combination

of one or more approaches.
 “the estimated price paid for a hypothetical transaction, on the
date of valuation, between a willing buyer and a willing seller in
an arm’s length, well marketed transaction, where in each
party has acted willingly, knowledgeably and without
compulsion.”

The Fair Value can be arrived at assigning suitable

weightages to the different approaches used so as to
eliminate bias and to even out the distortions that may occur
under each approach.
VALUATION APPROACH
Type of Business / Context Appropriate Primary Approaches
 Asset driven businesses based on large
investments and production capacities
 Companies in liquidation
 Turnaround companies that are in
distress and require substantial Asset based valuation approach
investments
 Real estate companies
 Natural resource companies
Banks and Financial / Investment entities Asset approach, Earnings / Market approach.

Infrastructure Companies Asset / Earnings approach

Well-established manufacturing companies
presently unlisted
Well-established manufacturing companies
presently listed / to be listed
Trading / service companies
Knowledge driven businesses
Brand intensive businesses
Strategically important / Exclusive
businesses
Earnings approach
Earnings / Market approach
Earnings / Market approach
Earnings approach
Earnings / Market approach
Earnings / Market approach
ENTERPRISE VALUE AND EQUITY VALUE

EV + Idle Cash – Present Value of Debt –

Preference Capital = Equity Value
OR
 EV = Equity Value + PV of Debt + Preference
Capital – Idle Cash
ENTERPRISE VALUE AND EQUITY VALUE
Estimated Market Cap = Rs.100,000,000
Debt o/s in books = Rs. 20,000,000
Preference Capital = Rs. 5,000,000
Idle Cash on books = Rs. ,000,000

Enterprise Value (EV) = 100,000,000 +20,000,000 + 5,000,000 (Pref) – 5,000,000

(cash)
= Rs. 120,000,000
Working the other way,

Equity Value = 120,000,000 – 20,000,000 – 5,000,000 (Pref) + 500,000,000

(cash)
= Rs.100,000,000

If debt and preference capital are non-existent, the equation becomes,

EV = Equity Value – Idle Cash on the Balance sheet

= Rs. 95,000,000
ENTERPRISE VALUE AND EQUITY VALUE
 A listed company with more cash and less debt on its
balance sheet will have an EV that is less than its
Market Cap. This is because –
EV = Equity Value + PV of Debt – Idle (non-
operating) Cash
So EV = Market Cap – Idle Cash (net of debt)

 A listed company which is leveraged and has less

cash on its balance sheet will have an EV that is
higher than its Market Cap.
VALUATION APPROACH – SPECIAL CASES

 Valuation of financial entities.

 Infrastructure developers and SPVs

 Valuation of holding companies

 SOTP Valuation

 Valuation of Intangibles

 Start-ups and technology driven companies

 Loss making businesses

VALUATION IN INVESTMENT BANKING

Strategic Public Offers Equity

Investments (IPO / FPO) Placements

Venture Capital CORPORATE Mergers and

VALUATION Amalgamations

Private Equity Preferential Substantial

Offers / ESOPs Acquisitions
JUDICIAL APPROACH TO VALUATION

 “If a valuer adopts the prescribed method or

any other recognised method of valuation, the
valuation cannot be assailed unless it is
shown that the valuation is made on a
fundamentally erroneous basis, or a patent
mistake has been committed, or the valuer
adopted a demonstrably wrong approach or a
fundamental error going to the root of the
matter” – Hon’ble Supreme Court in G L
Sultania vs. SEBI –(2007) 78 CLA 425 (SC).
JUDICIAL APPROACH TO VALUATION

 “A company court does not exercise an

appellate jurisdiction. It exercises jurisdiction
founded on fairness. It is not required to
interfere only because the figure arrived at by
the valuer was not as better as it would have
been if another method would have been
adopted.” – Supreme Court in Hindustan
Lever Ltd vs Tata Oil Mills Co. Ltd. AIR 1995
SC 470.