28 February 2020 AnkitChadha

Fair Valuation: Everything you need to know

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Every organization faces the need to see the value of its assets. It can be traditional assets, intellectual property, customer or supplier relations, or technology. Under regulatory compliance, both private and public companies need to have a fair valuation of their recorded goodwill and identified intangible assets. Our purpose is to assist organizations in making fact-based, well-informed decisions for business and investments.

What is the fair valuation of assets, you may ask? Well, it refers to the actual value of an asset, be it a product, stocks or security- which is agreed upon by both the seller and the buyer. Fair valuation gets applied to any product that is sold or traded in the market and not the ones that will be liquidated. Determining the fair valuation of an asset is necessary to come up with an amount or value that benefits both the seller and the buyer.

Let us now understand how fair valuation is different and what advantages it can bring to your business.

 

Fair Valuation Vs. Market Valuation

The market value of an asset is different from the fair value in the below-mentioned points:

  • Fair value fluctuates lesser than market value.
  • Market value is based on the most recent pricing of an asset.
  • Market value depends on the supply and demand of the asset in the market where it is bought or sold.

 

Methods For Fair Valuation Of Shares And Its Formula

No one valuation method will ever fit any purpose. Thus there are multiple methods of fair valuation for shares. It depends on the goal, availability of data, nature and capacity of the company.

  1. Asset-Based

This specific approach is based on the value of your company’s assets and liabilities, including contingent liabilities and intangible assets. Wherever a massive volume of capital assets are used, the asset-based approach is beneficial to the manufacturers and distributors.

Your company’s net assets are divided by the number of shares to derive the value of each share. Important points to keep in mind during the fair valuation of shares under this approach:

  • Consider the company’s overall asset base, including current assets and liabilities.
  • Consider fixed assets at their realizable value.
  • It is crucial to evaluate goodwill as a part of intangible assets.
  • Consider unrecorded assets and liabilities as well
  • Eliminate fictitious assets like preliminary expenses and accumulated losses.

To determine the net value of assets, deduct every external liabilities from the total asset value of your company. To find the value of the share, divide the net value of assets by the number of equity shares. The formula is:

Value Per Share=(Net Assets/Number Of Equity Shares)

 

  1. Market-Based

Generally, the market-based approach uses the share prices of comparable public traded companies and the asset sales of similar private companies. Private company's data can be obtained from available proprietary databases in the market. How to choose these comparable companies is more important as many pre-conditions have to be kept in mind during the selection, like nature and capacity of the business, size, industry and many such things.

 

  1. Comparable Company Market Multiple Method

Under this methodology, market multiples of similar listed companies are computed and applied to the business being valued to arrive at a multiple based valuation. The difficulty here is in the selection of a comparable company since it is rare to find two or more companies with the same product portfolio, size, capital structure, business strategy, profitability

and accounting practices.

 

  1. Comparable Transactions Multiple Method

‘Comparable Transactions Multiple Method’ approach is somewhat similar to the market multiples approach except that the sales and EBITDA multiples of reported transactions in the same industry in the recent past are applied to the sales and EBITDA of the business being valued.

 

  1. Maintainable Profit Method (Discounted Cash Flows –“DCF”)

DCF uses the future free cash flows of the company discounted by the firm's weighted average cost of capital (the average cost of all the capital employed in the business, including debt and equity), plus a risk factor measured by beta, to arrive at the present value. Beta is an adjustment that uses historical stock market data to measure the sensitivity of the company's cash flow to market indices, for example, through business cycles.

The DCF method is a substantial valuation tool, as it concentrates on cash generation potential of a business. This valuation method is based on the capability of a company to generate cash flows in the future. The free cash flows are projected for a certain number of years and then discounted at a discount rate that reflects a company’s cost of capital and the risk associated with the cash flows it generates.

 

Advantages of Fair Valuation

Fair Valuation Accounting measures the estimated value of an asset and is a commonly used method because of its benefits. Take a look:

  1. Valuation Accuracy

Fair value accounting enables more accurate valuations in a way that it can follow price fluctuations.

  1. Correct measure of Income

Fair valuation reflects the actual income of your company as its total asset value. It does not rely on reports of profit and loss, just on real value.

  1. Adaptability with different assets

Fair valuation evaluates all types of assets instead of historical cost values, which changes through time.

  1. Helps sustain your businesses

Fair valuation helps your business survive in times of financial difficulties as it allows the diminution of assets.

 

Choose an Experienced Valuation Partner

At TRC Corporate Consulting, our professionals have a thorough understanding of valuation-related issues. We are well known for our technical precision in the industry. You get offered complete and objective fair valuation services and specialized identification and assessment of your company’s intangible assets. We understand the importance of valuation and help you accurately measure and formulate values for taxation, litigation, financing and for strategic management. You are not just another client for us, you become our partner, and your business requirements become our priority. If you need a better understanding of our services or have any queries, reach out to us, and we will be glad to assist you.