valuation
Valuation is a critical skill in the modern business landscape, described by Professor Aswath Damodaran of the Stern School of Business at New York University as a craft learned through practice. For companies in India, accurate business valuations are vital for strategic activities such as mergers and acquisitions, restructuring, fundraising, and investments. Valuations also facilitate internal management decisions, employee stock ownership plans (ESOPs), and compliance with regulatory, tax, and financial reporting obligations. Furthermore, they are essential in legal contexts, including dispute resolution and arbitration.
In India, regulatory valuations must adhere to a range of laws and guidelines, including the Companies Act, the Foreign Exchange Management Act (FEMA), the Income Tax Act, SEBI regulations, and Ind-AS. These valuations typically necessitate reports from IBBI Registered Valuers, Chartered Accountants, and SEBI Registered Merchant Bankers.
When valuing a business, there are three primary methods to consider: the Asset Approach, the Income Approach, and the Market Approach.
The Asset Approach evaluates a business based on its tangible and intangible assets. While it generally reflects the net asset value recorded on the company’s balance sheet, it may overlook certain intangible assets and be subject to subjective accounting policies. Nevertheless, the Asset Approach is beneficial for identifying the minimum value of a business and is particularly relevant for mature companies, asset-intensive businesses, and investment holding entities.
The Income Approach focuses on the potential future cash flows that a business can generate. Within this method, the Discounted Cash Flow (DCF) technique is the most widely used. DCF calculates a business's present value by forecasting future cash earnings, factoring in the time value of money. This technique is especially suitable for viable businesses as it delivers a forward-looking valuation based on profitability and operational cash flows.
However, DCF involves uncertainties in estimating future cash flows and selecting the correct discount rate. To mitigate these challenges, it is advisable to conduct sensitivity and scenario analyses, which involve adjusting cash flow projections and discount rates across various scenarios—conservative, aggressive, and optimistic.
The Market Approach determines a business's value by comparing it to similar entities within the same industry. This method utilizes two main techniques: Comparable Companies Market Multiples (CCM) and Comparable Transaction Multiples (CTM).
CCM Method: This technique calculates valuation multiples from comparable listed companies and applies these multiples to the subject company, making necessary adjustments for size and marketability. The result often reflects a minority stake valuation.
CTM Method: Primarily employed for M&A valuations, CTM benchmarks the subject company against recent transactions in the industry. For private firms, transaction multiples derived from comparable deals guide the valuation, while for public companies, the open offer price that accounts for control premiums serves as the valuation basis.
At present, India does not have government-mandated valuation standards, which leads to inconsistencies in valuation reports. The Institute of Chartered Accountants of India (ICAI) introduced Valuation Standards in 2018 that are mandatory for its Registered Valuers Organisation (RVO) members, providing a framework for valuing securities and financial assets.
The Ministry of Corporate Affairs (MCA) is in the process of developing comprehensive valuation standards for India. A committee has been established to suggest standards and policies, although these recommendations are still pending finalization and approval.
The art of valuation requires a blend of expertise, experience, and professional judgment. At Transique Valuation Advisors, we harness years of experience across diverse industries and business life cycles to produce insightful valuations. Our goal is to ensure that both stakeholders and regulators have a clear understanding of the valuation methodologies employed and the subsequent conclusions derived.
Whether you are engaging in a merger, preparing for fundraising, or meeting regulatory requirements, precise and clearly communicated valuations can significantly impact your business outcomes.