India: Valuation For Companies - Special Factors

Last Updated: 18 April 2018
Article by Mudra Mehta

Valuations of companies or equity in India are required for a variety of reasons, usually triggered by mergers, acquisitions or share purchase/sale. The most common cases where an external valuation is required are:

  • RBI valuation or FEMA valuation: for purchase/sale/issue of shares between a resident and non-resident
  • Tax valuation: for calculation of capital gains and/or income from other sources under the Income Tax Act (Section 54 or 56)
  • Accounting valuation: usually to measure the value of intangible assets in a business on a purchase/merger, or to calculate the market value of investments in another business
  • Impairments: On an annual basis, a valuation of a company's cash-generating units may be required to check if any CGU is impaired
  • SEBI valuation: Usually triggered under the open offer provisions of the Takeover Code for a direct/indirect acquisition of shares by a large shareholder
  • Companies Act valuation: When a preferential allotment of shares / fresh issue of shares takes place
  • Stamp duty valuation: In mergers or amalgamations wherein assets and liabilities of a company are transferred without ascribing values separately
  • Settlement valuation or litigation valuation: Family settlements as well as corporate litigations often require a valuation of shares or assets that are being divided/paid out

External valuations usually need a Chartered Accountant (CA) or merchant banker. Getting a valuation from a CA or CA firm is usually more efficient than getting it from a merchant banker. But how do you ensure that your business is understood and valued correctly? This is an important question especially for unique cases that don't fit the traditional manufacturing/services profile.

While traditional methods (DCF or earnings multiples methods) work well for traditional businesses, there are often other methods that may need to be applied in unique cases. These can include:

1. Valuation of start-ups

The most common problem with applying a DCF method to a start-up is that "business stabilisation" is not reached in 4-5 years (the usual forecast period). Similarly, listed business' multiples do not reflect the growth potential of a start-up. Start-ups can be valued using an extended DCF to capture their full growth, or even a two-stage DCF model that applies a formula to reflect a gradually decreasing growth. New metrics for start-up valuations in the tech space include EV/DAU (Enterprise Value per Daily Average User) and many others.

2. Valuation of film content and other content

There is a large amount of subjectivity in valuing content. This is because of two factors: 1) the value of content almost invariably depends on how it can be packaged and sold with other content and 2) in the fast-evolving world of media, content without a digital platform is seeing a rapid decline in value. Film libraries (i.e. films that have completed their release run) have historically been valued based on the potential satellite rights that can be sold, global syndication rights, streaming rights and so on. There is currently a high demand for content as various players (Netflix, Prime, Hotstar, Voot) build up content libraries. In a few years from now, this demand will likely drop and the prices being offered for new content will stabilise. Content under production, on the other hand, is almost invariably valued at the cost of production because of the unpredictability of success.

3. Valuation of financial businesses

This can include banks, NBFCs, insurance companies, asset managers, funds, etc. While these can be valued using traditional methods, a few cross-checks are necessary. These include checking the price to book value (P/BV) and price to earnings (P/E) ratios for current and future periods. It's also important to compare the company's credit rating with that of the listed comparable companies – e.g. if your company's assets are rated B+ and the listed companies' assets are rated AA, they cannot be valued at the same levels.

4. Valuation of natural resource businesses

Oil and gas, metals, mining and other industries can be extremely cyclical and often every asset is unique. Applying an EV/EBITDA or P/E multiple of a listed company can often give the wrong value. Why? Because the value of the company should reflect its existing resources, the resources that are being explored as well as resources yet to be explored. Additionally the life of each resource (e.g. a mine) may be different. We therefore see more reliance on industry-specific multiples (EV/Reserves, EV/capacity, etc.)

5. Valuation of intangible assets

Valuing equity is usually straightforward. So is valuing fixed assets like property, cars, machinery and so on. But often a business' strength lies in intangibles – its brand, its customer relationships, networks, patents and goodwill. When a business is bought by another business, often this triggers accounting provisions for fair valuation of intangible assets. Simply put, this is a good opportunity to recognise some of the intangible assets your business may have developed. Intangible assets are valued using a variety of methods such as royalty relief, multi-period excess earnings, replacement cost, etc.

As we've tried to demonstrate, valuations can be very subjective. The worst thing a valuer can do is to approach them with a one-size-fits-all mentality. Every business is unique – in asset profiles, risk profiles, stage of growth and positioning. It's important to ensure that an external valuer has the whole picture of your business and values it fairly.

To read more on this topic from Asit Mehta & Associates, please click here

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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