Corporate valuation basics/ CA Final SFM

Corporate valuation basics/ CA Final SFM

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Created By Admin Last Updated Wed, 26-Aug-2020

Need for Corporate Valuation

  • Along with the enterprise growth, number of stakeholders also grows.
  • Presentation of annual financial statements become.
  • A curiosity of the stakeholders to understand the ‘true worth’ of their enterprise becomes translated to the concept of ‘valuation’.
  • The market analysts, financial intermediaries, and the academicians, also attempt to apply their valuation approaches for valuing the correct worth of the enterprise at hand.
  • As it stands today, valuation has become an inseparable part of strategic financial management.

The need for a proper assessment of an enterprise’s value can be typically for:

  • Information for its internal stakeholders,
  • Comparison with similar enterprises for understanding management efficiency,
  • The future public listing of the enterprise,
  • Strategic planning, for e.g. finding out the value driver of the enterprise or for a correct deployment of surplus cash
  • Ballpark price (i.e. an approximate price) for acquisition, etc.

There are three approaches to valuing an enterprise:

  • Assets Based Valuation Model
  • Earning Based Models
  • Cash Flow Based Models

Assets Based Valuation

When Net Assets are expressed in terms if each equity share, it is termed as “Book Value per share”.

When Net Assets adjusted on the basis of fair values and expressed in terms if each equity share, it is termed as “Intrinsic Value per share”.

Assets Based Valuation fails to consider the ability of the Enterprise to generate Future Revenues & Cash Flows.

Earnings Based Valuation

1.   CAPM based valuation

2.   Multiplier based valuation

CAPM Based Valuation

First, determine expected rate of return using CAPM. Thereafter, capitalize the EBITDA (Earnings before Interest, Taxes, Depreciation and Amortization) by using the expected rate of return as per CAPM.

EBITDA Multiplier Based Valuation

Enterprise Value = EBITDA X Multiplier

Cash Flow Based Valuation

Steps involved in Cash Flow-based Valuation:

1.   Arriving at the “Free Cash Flow”

2.   Forecasting “Future Cash Flow” (FCF)

3.   Determining the “Terminal Value” of the enterprise (TV)

4.   Determining “Discounting Rate” based on Cost of Capital

5.   Determining the “Present Values” of FCF & TV