Value of an asset is the price which buyer & seller or the parties to the transaction agree to. Once a particular figure is agreed upon as a price, how it has been arrived at becomes insignificant. But as the parties have to convince each other about the valuation of price they are demanding, there are many methods which are used for valuation either singly or in combination. A.1 Purposes of valuation: 1) Assessments under the Wealth Tax, Income Tax or Gift Tax Acts. 2) Purchase of a block of shares which may or may not give the holder thereof a controlling interest in the company. 3) Purchase of shares by employees of the company where the retention of such shares is limited to the period of their employment 4) Formulation of schemes of amalgamation, absorption, etc. 5) Acquisition of interest of dissenting shareholders under a scheme of reconstruction. 6) Compensating shareholders, on the acquisition of their shares, by the Government under a scheme of nationalization. 7) Conversion of shares, say, preference into equity shares. 8) Advancing a loan on the security of shares. 9) Resolving a deadlock in the management of a private limited company on the basis of the controlling block of shares given to either of the parties. A.2 Relevance of valuation: Valuation by an expert is generally called for when parties involved in the transaction/ deal/ scheme, etc. fail to arrive at a mutually acceptable value or agreement or when the Articles of Association etc. provide for valuation by experts. For transactions concerning relatively small blocks of shares which are quoted on the stock exchange, generally the ruling stock exchange price (average price) provides the basis. But valuation, by a valuer becomes necessary when 1) Shares are not quoted; 2) Shares relate to private limited companies; 3) The court so directs; 4) Articles of association or relevant agreements so provide; 5) A large block of shares is under transfer; and 6) Statutes so require (like Wealth Tax, Gift Tax Acts)
A.3 Limitation of stock exchange price as a basis for valuation:
In a stock exchange numerous people collect-some to deal, some to watch and some to rig. Consequently, depending on the motivation they react and the result of such reactions come out as the market price, which is partly an outcome of reasoned investments or sales policy, partly embodying the effect of speculative motives. The stock exchange registers not its own actions and opinions, but the actions and opinions of private and institutional investors all over the country and, indeed the world. These actions and opinions are the results of hope, fear, guesswork, intelligence or otherwise, good or bad investment policy and many other considerations. The quotations that result definitely do not represent a valuation of a company by reference to its assets and its earning potential. Stock exchange price is basically determined on the inter-action of demand and supply and may not reflect a true value of shares (that based on fundamental factors like net assets, earnings yield, etc.) A.4 Factors for share valuation: Two factors stand out to be basically important for equity share valuation: Assets employed and the profit earned; mostly both are considered. The following has general acceptance: 1. For a company destined to be liquidated, assets will constitute the basis for valuing the shares of the company. 2. For organizations where assets play a relatively unimportant role, for example in the case of professional practice of architects and engineering consultants, valuation may depend wholly on the earning capacity. 3. Earning power and assets both may be considered in valuation of the shares of a going concern, earning power playing a major role while assets are considered only to indicate safety margin i.e. asset backing.
A.5 METHODS OF SHARE VALUATION:
A.5.1 Net Asset basis/ Breakup value/Intrinsic value of Equity share 1. All assets at the proper value are added then deduct all liabilities including preference capital the balance will be net worth. The net worth is divided by the number of shares to get value per share. 2. If purchased goodwill appears in the books of account it should be eliminated and new valuation should be taken into consideration. In case goodwill was recently purchased then the same may be considered. 3. Shares and securities which are quoted in the stock exchange and traded on a regular basis, their market price should be used as current value of investments. For other investments book value may be taken after adjustments of known loss or gain. 4. The stock of finished goods may be taken at the market price. But other stocks like raw material, stores and work-in-progress should be taken at cost following conservative approach, Due allowance should be made for any obsolete, unusable or unmarketable stocks held by the company. 5. If the objective is to determine ex-dividend value of equity shares, proposed equity dividend is also to be deducted.
Valuation of Shares by Net Assets Basis
Question A.1: The following is the balance sheet of M/s ABC Ltd as on 31/03/2012. Calculate the value per equity share by Net Asset basis. Amount Amount Liabilities Assets (Rs.) (Rs.) Capital 10,000 8% Preference Shares 1,00,000 Machine 3,00,000 of Rs. 10 each fully paid 30,000 Equity Shares of Rs. 10 5,00,000 3,00,000 Building each fully paid Reserve and Surplus 4,00,000 Goodwill 1,00,000 7% Debentures 4,00,000 Investments 2,00,000 Long Term Loan from Bank 1,30,000 Debtors 2,00,000 Sundry Creditors 40,000 Stock 1,00,000 Short Term Loan 30,000 Total 14,00,000 Total 14,00,000 Additional Notes: 1. The value of Goodwill appearing in the balance sheet represents value of goodwill purchased 5 years back. The current valuation of goodwill of the company is Rs. 3,00,000. 2. The Investments represent 5000 equity shares purchased of another company XYZ Ltd. @ Rs. 40 per share. However the current quoted value of share in the stock exchange is Rs. 35. 3. 10% of the debtors are doubtful and stock is to be valued at 5% above Book value. 4. Interest on debentures is due for six months; preference dividend is also due for the year. Neither of these has been provided for in the balance sheet. 5. Depreciate the value of Machine & Building by 5% and 10% respectively.
Valuation if Equity Shares are of different types that is having
different face values: Valuation will be done considering the fact that the net assets available will be distributed in proportion to the face value of shares. Valuation if Equity Shares have different face values Question A.2: Equity: A type: 5 lacs shares of Rs. 10 each fully paid up i.e Rs.50 lacs; & B type; 5 lacs shares of Rs. 5 each fully paid up i.e Rs.25 lacs. If the Net worth is Rs.150/- lacs then calculate value of shares.
Equity shares having different paid up value:
If some shares are partly paid up, a notional call equivalent to the calls unpaid added with the net assets. And value of shares is determined taking partly paid up shares as notionally fully paid up. Thereafter value of partly paid up shares is arrived at after deducting unpaid call or uncalled amount from value of fully paid up shares. Valuation by Net Asset Basis if Equity Shares have different paid-up values Question A.3: Suppose in above Question A.2, B type shares are Rs.10 face value share, having Rs.5 paid up, then value the shares.
Share Valuation by Net Asset basis and Goodwill Valuation by
Super Profit Method Question A.4: The following is the Balance Sheet of N Ltd. as on 31st March, 2011 Balance Sheet Liabilities 4,00,000 Equity shares of Rs. 10 each fully paid 13.5% Redeemable preference shares of Rs. 100 each fully paid General Reserve Profit and Loss Account Bank Loan (Secured against fixed assets) Bills Payable Creditors
Further information: (i) Fixed assets are worth 30% more than book value. (ii) Stock is overvalued by Rs.1,00,000 (iii) Debtors are to be reduced by Rs.20,000. (iv) Trade investments, which constitute 10% of the total investments are to be valued at 10% below cost. (v) In 2008-2009 new machinery costing Rs.2,00,000 was purchased, but wrongly charged to revenue. This amount should be adjusted taking depreciation at 10% on reducing value method. (vi) Goodwill is currently valued at Rs. 5,80,000 Find out the intrinsic value of the equity share.
Computation of Net Assets value of differently paid up
categories of Equity Shares Question A.5: From the following data, compute the Net Assets value of each category of equity shares of Smith Ltd.: Shareholders funds 10,000 A Equity shares of Rs. 100 each, fully paid 10,000 B Equity shares of Rs. 100 each, Rs. 80 paid 10,000 C Equity shares of Rs. 100 each, Rs. 50 paid Retained Earnings Rs. 9,00,000
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