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What Do You Understand by Valuation and Why There Is A Need For Valuation? Answer

Valuation is the process of determining the monetary worth of an asset or business. It is needed for statutory purposes like taxes, commercial purposes like mergers and acquisitions, and setting the value of a business for sale. The main valuation methods are the income approach, market approach, and asset approach. The income approach values a business based on its future earnings, the market approach compares a business to similar public companies, and the asset approach values a business based on its net asset value. A proper valuation provides a realistic value conclusion based on transparent analysis of relevant factors.

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94 views4 pages

What Do You Understand by Valuation and Why There Is A Need For Valuation? Answer

Valuation is the process of determining the monetary worth of an asset or business. It is needed for statutory purposes like taxes, commercial purposes like mergers and acquisitions, and setting the value of a business for sale. The main valuation methods are the income approach, market approach, and asset approach. The income approach values a business based on its future earnings, the market approach compares a business to similar public companies, and the asset approach values a business based on its net asset value. A proper valuation provides a realistic value conclusion based on transparent analysis of relevant factors.

Uploaded by

sarath
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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What do you understand by valuation and why there is a need for valuation?

Answer
Valuation is a process of appraisal or determination of the value of certain assets: tangible
or intangible, securities, liabilities and a specific business as a going concern or any
company listed or unlisted or other forms of organization, partnership or proprietorship.
‘Value’ is a term signifying the material or monetary worth of a thing, which can be
estimated in terms of medium of exchange.

Valuation is the analytical process of determining the current (or projected) worth of an
asset or a company. Valuation of business plays a very vital role, therefore a business
owner or individual may need to know the value of a business. The fair market value
standard consists of an independent buyer and seller having the requisite knowledge and
facts, not under any undue influence or stressors and having access to all of the information
to make an informed decision.
The need for valuation for various statutory and commercial purposes may be captured in
the following points:
i) Assessment under Wealth tax act, Gift tax act.
ii) Formulation of scheme for amalgamation.
iii) Purchase and sale of shares of private companies.
iv) Raising loan on the security of shares.
v) For paying court fees.
vi) Conversion of shares.
vii) Purchase of block of shares for the purpose of acquiring interest or otherwise in
another company.
viii) Purchase of shares by the employees of the company where retention of such
shares is limited to the period of their employment.
ix) Compensation to the shareholders by the government under a scheme of
nationalization.

x) Acquisition of shares of dissenting shareholders under a scheme of reconstruction.


xi) To set a basis of value for a business when no valuation has been previously
performed.
xii) To set a base line value for the business and develop a strategy to improve the
profitability of the business and increase the value of the business for an exit
strategy.
xiii) To identify whether the business is growing, stagnant or declining in value to
restructure the business.
xiv) To determine the potential built-in-capital-gains tax in a conversion from a
CCorporation
to an S-Corporation.
Enumerate the main objectives of corporate valuation.
Answer
The main objectives of corporate valuation are as under:
a) Assist a purchaser or a seller in deciding the acceptable purchase consideration.
b) Assist an arbitrator in settling a dispute between parties.
c) Assist a lender in quantifying the security for loan.
d) Establish value for stamp duty.
e) Quantify a value for inclusion in accounting records.
f) Assess a consequential loss claim.
g) Assess a management buyout or a leveraged buyout.

Enumerate the characteristics of a proper valuation exercise.


Answer
The characteristics of a proper valuation exercise are as under:
a) Realistic and acceptable value conclusion.
b) Application of convincing methods to arrive at the value conclusion.

c) Transparency of the valuation process.


d) Realistic consideration of factors responsible for valuation.
e) Ensuring unbiased considerations and avoiding short-cat attempts.
f) Validation under critical scrutiny.
g) Meticulous work of a group of professionals representing various disciplines such
as finance, accounting, economies, engineering, and investment banking.
h) Comprehensive and detailed valuation report justifying fairness of opinion and
accepted as an expert testimony.

What are the benefits of business valuation?


Answer
Business valuation is an approach wherein the worth of a business and its assets are
determined. Majority of business owners go through a valuation when they are opting to
sell their enterprise. Other reasons include mergers, organizational restructuring, and
partnership dissolution.
There are various elements to be considered with reference to business valuation. In this
regard, revenues are an important determinant but they are not the only consideration in
the valuation process. Other factors being weighed are the business type, i.e., its history,
financial status, stock value, value of intangible assets, competition, and the general
economic outlook.
Thus, the advantages of business valuation may be captured under the following points:
i) Better Knowledge of Company Assets: It is significantly important to obtain an
accurate business valuation assessment. Estimates are not acceptable as it is a
generalization. Specific numbers need to be gained from valuation processes so
that business owners can obtain proper insurance coverage, know how much to
reinvest into the company, and how much to sell your company for so that you still
make a profit.
ii) Comprehending Company’s Resale Value: If the management is contemplating to
sell the company, knowing its true value is necessary. This process should be
started far before the business goes up for sale on the open market because it will
have an opportunity to take more time to increase the company's value to achieve
a higher selling price. It is imperative to be conversant with the value of the
business. One also need to be aware of the company's resale value really is in
order to negotiate a higher selling price.

iii) Obtain a True Company Value: The management of a company may be aware of
its business worth on the basis of simple information like stock market value, total
assets value and company’s bank account balances. But, there is much more to
business valuations than those simple factors.
Knowing the true value of the company is often a deciding factor if selling the
business becomes a possibility. It also helps to show company income and
valuation growth over the course of the previous years. Potential buyers like to
see that a company has seen regular, consistent growth as it ages.
iv) Mergers and Acquisitions: When a company goes for merger or acquisition, the
valuation of business gains substantial significance. As it assist in determining the
value of assets, current scenario of the company’s growth going for merger /
acquisition and whether post acquisition / merger it possess growth potential. A
proper business valuation assist phenomenally in negotiating superior purchase
consideration / price.
v) Access to More Investors: While seeking additional investors to fund company’s
growth or save it from financial catastrophe, the investor will demand for a
complete company valuation report. One should also provide potential investors
with a valuation projection based upon their provided funding. Investors like to
see where their money is going and how it is going to provide them with a return
on the investment.
You are more likely to gain the attention of a potential investor when they can see that
their funds will carry the company to the next level, increase its value, and put more money
back into their own products.
What are the different methods of valuation?
Answer
The different methods / approaches of valuation are as under:
1. Income Approach: The income valuation method is based on concept of valuing
the present value of future benefits. This approach estimates business value by
considering the future income accruing over a period of time. The methods most
commonly used by business valuation professionals include the Capitalization of
Earnings Method and the Discounted Earnings Method (Discounted Cash Flow
Method).
2. Market Approach: Market Approach refers to the notion of arriving at the value of
a company by comparing it to the market value of similar publicly listed
companies. The market business valuation approach is also based on the principle
of substitution. The business valuation expert identifies business entities that have
transacted as a way to compare the subject business. Sold businesses in
comparison to the subject is a way to calculate value of an equally desirable
company from an ownership or investment standpoint. The methods most
commonly used for the market business valuation approach are the Guideline
Public Company Method, Guideline Company Transactions Method, Multiple of
Discretionary Earnings Method, and Gross Revenue Multiple Method.
3. Asset Approach: The asset business valuation approach is based on the principle
of substitution that a prudent buyer will not pay more for a property than the cost
of acquiring a substitute property of equivalent utility. All assets and liabilities are
adjusted to reflect the business as a going concern entity or the company in
liquidation, depending on the premise of value appropriate for the valuation.
An asset-based approach is a type of business valuation that focuses on a
company’s net asset value (NAV), or the fair-market value of its total assets minus
its total liabilities, to determine what it would cost to recreate the business. There
is some room for interpretation in the asset approach in terms of deciding which
of the company’s assets and liabilities to include in the valuation, and how to
measure the worth of each.

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