0
Due Diligence, Legal and
Regulatory Valuation aspects
“In the business world, the rearview mirror is
always clearer than t...
Particulars Pg. No.
What and Why 3
How 10
When and Who 22
FEMA Valuation Guidelines 25
Registered Valuer 40
Tricky Issues ...
WHAT & WHY
EOK Study Circle - ICAI22/11/2013
Value & Valuation
 Value is*
 An Economic concept;
 An Estimate of likely prices to be concluded by the buyer and selle...
Key Facts
PRICE IS NOT THE SAME AS VALUE
TRANSACTION CONCLUDES AT NEGOTIATED PRICES
VALUATION IS HYBRID OF ART & SCIENCE
V...
S Standard of Valuation
T Thesis of Valuation
E Economics of Valuation
M Methodologies of Valuation
EOK Study Circle - ICA...
FAIR MARKET VALUE
INTRINSIC VALUE FAIR VALUE
INVESTMENT VALUE
Standard of
Valuation
Thesis of Valuation Economics of
Valua...
Standard of
Valuation
Thesis of Valuation Economics of
Valuation
Methodologies of
Valuation
Thesis of Value is Premise of ...
Growing
Cos.
 Turnover/Profits: Increasing still Low
 Proven Track Record: Limited
 Valuation Methodology: Substantiall...
HOW
EOK Study Circle - ICAI22/11/2013
Enterprise / Business Value
EnterpriseValue
Net Debt#
Equity#
Fixed
Assets#
Net Current
Assets#
Intangibles#
Stakeholders ...
Standard of
Valuation
Thesis of Valuation Economics of
Valuation
Methodologies of
Valuation
Valuation Approaches
Income Ba...
While concluding Value, all the methodologies must be considered and then weights applied
as per the facts of the case. In...
Sources of Information for Valuation
Sources of
Information
Historical financial results –
Income Statement, Balance
Sheet...
CASH FLOW
Investor assign value based on the cash flow they expect to receive in the
future
- Dividends / distributions
- ...
• Mergers
• IPO
• RBI
• Income Tax
• ESOP
• Companies Act
• SEBI
• Stock Exchange
Purpose Regulatory Accounting
• Purchase...
Choice of Valuation Approaches
“Value in Valuation is a question,
and
Your choice of Method is the first step
towards answ...
Choice of Valuation Approaches
• In General, Income Approach is preferred;
The dominance of profits for valuation of shar...
Company Specific Factors
• Management, Promoter Group
It is the alignment of
Company’s value via-a-
vis to its external
en...
Industry Risk Analysis
• Good vs. Difficult industry
• Porter’s 5 forces
• Industry life cycle (growth)
• Industry cyclica...
Rule of Thumb
A rule of thumb or benchmark indicator is used as a
reasonableness check against the values determined by th...
WHEN & WHO
EOK Study Circle - ICAI22/11/2013
Valuation in Indian Regulatory
Environment
EOK Study Circle - ICAI22/11/2013
Inbound Investment DFCF
Gift of Unquoted Equity
Shares (Min)
NAV
Outbound Investment Valuer Discretion
Gift of Unquoted Sh...
FEMA Valuation Guidelines
EOK Study Circle - ICAI22/11/2013
FDI
VALUATION
• Notification No. FEMA 20/2000-RB dated May 3, 2000, as amended from time to time deals
with Foreign Exchan...
Particulars Valuation before April 21, 2010 Valuation after April 21, 2010
Guidelines in Force CCI Guidelines In case of F...
22/11/2013
Discounted Free Cash Flow Method (DFCF)
Approaches to FDI Valuation
 RBI has prescribed DFCF as the only valuation method...
 Forward Looking and focuses on cash generation
 Recognizes Time value of Money
 Allows operating strategy to be built ...
DFCF Valuation Process
 Understand Business Model
 Identify Business Cycle
 Analyze Historical Financial Performance
 ...
Free Cash Flows- Value Trend
Terminal Value is calculated for the Perpetuity period based on the
Adjusted last year cash f...
Free cash flows to firm (FCFF) is calculated as
EBITDA
Taxes
Change in Non Cash Working capital
Capital Expenditure
Free C...
DISCOUNT RATE – WEIGHTED AVERAGE COST OF CAPITAL
Where:
D = Debt part of capital structure
E = Equity part of capital stru...
DISCOUNT RATE - COST OF EQUITY
Where:
Rf = Risk free rate of return (Generally taken as 10-year Government Bond
Yield)
B =...
PERPETUITY FORMULA
– Usually comprises a Large part of Total Value and is sensitive to small
changes
– Capitalizes FCF aft...
 Pre Money or Post Money: If the effect of the money coming in Company is
taken in Projections, the Expanded capital base...
 Adjustment of Company Specific Risk Premium or Small Company Risk
Premium: Small Companies are generally more risky than...
22/11/2013
Registered Valuer
Companies Act, 2013
EOK Study Circle - ICAI22/11/2013
Registered Valuers
Registered Valuers
Financial Valuer Technical Valuer
• A Chartered Accountant,
Company Secretary or Cos...
Registered Valuers
Registered
Valuer
Further Issue
of Shares
Compromise
and
Arrangements
Winding up /
Liquidation
Non Cash...
Section wise Requirement of Registered Valuers
Section 62(1)(c) – For Valuing further Issue of Shares
Section 192(2) – For...
Registered Valuers (Draft Rules) – Methods of Valuation
I. Before adopting methods, decide Valuation Approach-
• Asset App...
Registered Valuers (Draft Rules) – Methods of Valuation
III. Registered Valuer shall make valuation of any asset in accord...
Registered Valuers (Forms) – Contents of Valuation report
1) Description of valuation engagement
(a) Name of the client:
(...
Registered Valuers (Forms) – Contents of Valuation report
(4) Description of specific valuation of assets used in the busi...
Some Specific Tricky Issues
EOK Study Circle - ICAI22/11/2013
Discounts
• Discount for Entity Level
Discounts & Premiums come into picture when there exist difference between the
subje...
Premium
•Control Premium - An investor seeking to acquire control of a company is typically
willing to pay more than the c...
Excess Cash and Non Operating Assets
Excess cash is defined as „total cash (in balance
sheet) – operating cash (i.e. minim...
Cross Holding and Investments
Holdings in other firms can be categorized into:
Types of Cross Holding Meaning
Minority, Pa...
Accounting Practices and Tax issues
Most of the information that is used in
valuation comes from financial statements.
whi...
Valuation Methodologies and Value Impact
Major Valuation Methodologies Ideal for Result
Net Asset Value
Net Asset Value (B...
About
Corporate Professionals
Offering varied legal & financial services, 'Corporate Professionals' has emerged as an inno...
Mr. Chander Sawhney
Vice President
M: +91 9810557353
D: +91 11 40622252
E: chander@indiacp.com
Mr. Maneesh Srivastava
Seni...
As Close As You Need
As Far As You Go……
Delhi Office
D-28, South Ex., Part-I, New Delhi-110049,
D-38, South Ex., Part-I, N...
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FEMA Valuation Aspects(FDI & ODI) and Registered Valuation

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This presentation "FEMA Valuation Aspects(FDI & ODI) and Registered Valuation" has been delivered by Mr. Chander Sawhney at East of Kailash Study Circle of ICSI on 22/11/2014.

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  • Transcript of "FEMA Valuation Aspects(FDI & ODI) and Registered Valuation"

    1. 1. Due Diligence, Legal and Regulatory Valuation aspects “In the business world, the rearview mirror is always clearer than the windshield” Warren Buffett FEMA – Valuation aspect (FDI & ODI) and Registered Valuer under Companies Act – 2013 To know how we can assist you with our Valuation services, please contact Mr. Chander Sawhney Vice President M: +91 9810557353 E: chander@indiacp.com Mr. Maneesh Srivastava Senior Manager M: +91 9871026040 E: maneesh@indiacp.com
    2. 2. Particulars Pg. No. What and Why 3 How 10 When and Who 22 FEMA Valuation Guidelines 25 Registered Valuer 40 Tricky Issues 46 EOK Study Circle - ICAI22/11/2013
    3. 3. WHAT & WHY EOK Study Circle - ICAI22/11/2013
    4. 4. Value & Valuation  Value is*  An Economic concept;  An Estimate of likely prices to be concluded by the buyer and seller of a good or service that is available for purchase;  Not a fact.  Valuation is the process of determining the “Economic Worth” of an Asset or Company under certain assumptions and limiting conditions and subject to the data available on the valuation date. * Source -International Valuation Standard Council EOK Study Circle - ICAI22/11/2013
    5. 5. Key Facts PRICE IS NOT THE SAME AS VALUE TRANSACTION CONCLUDES AT NEGOTIATED PRICES VALUATION IS HYBRID OF ART & SCIENCE VALUE VARIES WITH PERSON, PURPOSE AND TIME EOK Study Circle - ICAI22/11/2013
    6. 6. S Standard of Valuation T Thesis of Valuation E Economics of Valuation M Methodologies of Valuation EOK Study Circle - ICAI22/11/2013
    7. 7. FAIR MARKET VALUE INTRINSIC VALUE FAIR VALUE INVESTMENT VALUE Standard of Valuation Thesis of Valuation Economics of Valuation Methodologies of Valuation Standard of Value is the hypothetical conditions under which a business is valued. While selecting the Standard of Value following points is to be taken care of  Subject matter of Valuation;  Purpose of Valuation;  Statute;  Case Laws;  Circumstances. Types of Standard of Value: EOK Study Circle - ICAI22/11/2013
    8. 8. Standard of Valuation Thesis of Valuation Economics of Valuation Methodologies of Valuation Thesis of Value is Premise of value which relates to the assumptions upon which the valuation is based. Premise of Value  Going Concern – Value as an ongoing operating business enterprise.  Liquidation – Value when business is terminated . It could be „forced‟ or „orderly‟.  Value-in-use  Value-in-exchange EOK Study Circle - ICAI22/11/2013
    9. 9. Growing Cos.  Turnover/Profits: Increasing still Low  Proven Track Record: Limited  Valuation Methodology: Substantially on Business Model  Cost of Capital: Quite High High Growth Cos.  Turnover/Profits : Good  Proven Track Record: Available  Valuation Methodology: Business Model with Asset Base  Cost of Capital: Reasonable Mature Cos.  Turnover/Profits: Saturated  Proven Track Record: Widely Available  Method of Valuation: More from Existing Assets  Cost of Capital: May be High Declining Cos. `  Turnover/Profits: Drops  Proven Track Record: Substantial Operating History  Method of Valuation: Entirely from Existing Assets  Cost of Capital: N.A.  Turnover/Profits: Negligible  Proven Track Record: None  Valuation Methodology: Entirely on Business Model  Cost of Capital: Very High Start Up Cos. Turnover/Profits Time Valuation across business cycle follow the law of economics Standard of Valuation Thesis of Valuation Economics of Valuation Methodologies of Valuation EOK Study Circle - ICAI22/11/2013
    10. 10. HOW EOK Study Circle - ICAI22/11/2013
    11. 11. Enterprise / Business Value EnterpriseValue Net Debt# Equity# Fixed Assets# Net Current Assets# Intangibles# Stakeholders Assets ValueofBusiness # Based on Market Values EOK Study Circle - ICAI22/11/2013
    12. 12. Standard of Valuation Thesis of Valuation Economics of Valuation Methodologies of Valuation Valuation Approaches Income Based Method Asset Based Method Capitalization of Earning Method (Historical) Discounted Cash Flow Method (Projected Time Value) Market Based Method Comparable Companies Market Multiples Method (Listed Peers) Comparable Transaction Multiples Method (Unlisted Peers) Market Value Method (For Quoted Securities) Book Value Method Liquidation Value Method Replacement Value Method Contingent Claim Valuation (Option Pricing) Price of Recent Investment Method Rule of Thumb (Multiples: Customers, Rooms, Seats, No. of visitors etc.) - Depends upon Industry EOK Study Circle - ICAI22/11/2013 Fundamental Method Relative Method Other Method
    13. 13. While concluding Value, all the methodologies must be considered and then weights applied as per the facts of the case. In other words, Value conclusion should be based on the Professional Judgement and Simple Average should best be avoided while concluding Value. Need of several valuation methods? Each has strengths and weaknesses Different methods useful in different situations Each gives a different “take” on the value of the company’s stock Provides a range of valuations instead of point estimates Helps in Sanity Check
    14. 14. Sources of Information for Valuation Sources of Information Historical financial results – Income Statement, Balance Sheets and Cash Flows Data available in Public Domain – Stock Exchange / MCA/SEBI/Independent Report Data on comparable companies – SALES/EV- EBITDA/ PAT/BV Promoters and Management background Data on projects planned/under implementation including future projection Discussion and Representation with/by the management of the Company Industry and Regulatory trends EOK Study Circle - ICAI22/11/2013
    15. 15. CASH FLOW Investor assign value based on the cash flow they expect to receive in the future - Dividends / distributions - Sale of liquidation proceeds Value of a cash flow stream is a function of - Timing of cash Receipt - Risk associated with the cashflow ASSETS Operating Assets - Assets used in the operation of the business including working capital, Property, Plant & Equipment & Intangible assets - Valuing of operating assets is generally reflected in the cash flow generated by the business Non - Operating Assets - Assets not used in the operations including excess cash balances, and assets held for investment purposes, such as vacant land & Securities - Investors generally do not give much value to such assets and Structure modification may be necessary Key drivers of valuation That’s why DCF is most prominent valuation method Need for Restructuring EOK Study Circle - ICAI22/11/2013
    16. 16. • Mergers • IPO • RBI • Income Tax • ESOP • Companies Act • SEBI • Stock Exchange Purpose Regulatory Accounting • Purchase Price Allocation Dispute Resolution • Company Law Board/ Courts • Impairment / Diminution • Arbitration • Mediation • Acquisitions / Investment • Voluntary Assessment Value Creation • Equity Research • Credit Rating • Corporate Planning Valuation depends upon EOK Study Circle - ICAI22/11/2013
    17. 17. Choice of Valuation Approaches “Value in Valuation is a question, and Your choice of Method is the first step towards answer” Applicability of a particular approach depends upon: On whose behalf? – one buyer vs another buyer, buyer vs seller; For what purpose? – independent strategic acquisition, group company consolidation, cross border transaction; When? – distress situation, industry downturn, boom etc; EOK Study Circle - ICAI22/11/2013
    18. 18. Choice of Valuation Approaches • In General, Income Approach is preferred; The dominance of profits for valuation of share was emphasised in “McCathies case” (Taxation, 69 CLR 1) where it was said that “the real value of shares in a company will depend more on the profits which the company has been making and should be capable of making, having regard to the nature of its business, than upon the amount which the shares would realise on liquidation”.  This was also re-iterated by the Indian Courts in Commissioner of Wealth Tax v. Mahadeo Jalan’s case (S.C.) (86 ITR 621) and Additional Commissioner of Gift Tax v. Kusumben D. Mahadevia (S.C.) (122 ITR 38). • However, Asset Approach is preferred in case of Asset heavy companies and on liquidation; •Market Approach is preferred in case of listed entity and to evaluate the value of unlisted company by comparing it with its listed peers; EOK Study Circle - ICAI22/11/2013
    19. 19. Company Specific Factors • Management, Promoter Group It is the alignment of Company’s value via-a- vis to its external environment • Operating, Capital and Corporate Finance Strategies • Competitive advantages and cost position • Product / Service offering / differentiation / pricing power •Scale & Diversification •Customer / Supplier concentration •Corporate Governance •Future prospects / Growth potential •Industry peer group •Regulatory environment EOK Study Circle - ICAI22/11/2013
    20. 20. Industry Risk Analysis • Good vs. Difficult industry • Porter’s 5 forces • Industry life cycle (growth) • Industry cyclicality (earnings quality) • Leading indicators • Competition (ROIC) • Pricing dynamics; Demand vs. Supply (ROIC) • Changing business environments • Regulation (ROIC) • Product characteristics (earnings quality) • Capital intensity and cost base (ROIC) • Event risk Following factors are required to be considered: EOK Study Circle - ICAI22/11/2013
    21. 21. Rule of Thumb A rule of thumb or benchmark indicator is used as a reasonableness check against the values determined by the use of other valuation approaches. Industry Valuation Parameters Hospital EV/Room Engineering Mcap/Order Book Mutual Fund Asset under management OIL EV/ Barrel of equivalent Print Media EV/Subscriber Power EV/MW, EBITDA/Per Unit Entertainment & Media EV/Per screen Metals EBITDA/Ton, EV/Metric ton Textiles EBITDA depend upon capacity utilization Percentage & per spindle value Pharma Bulk Drugs New Drug Approvals , Patents Airlines EV/Plane or EV/passenger Shipping EV/Order Book, Mcap/Order Book Cement EV/Per ton & EBITDA/Per ton Banks Non performing Assets , Current Account & Saving Account per Branch However, Exclusive use of Rule of Thumb is not recommended EOK Study Circle - ICAI 22/11/2013
    22. 22. WHEN & WHO EOK Study Circle - ICAI22/11/2013
    23. 23. Valuation in Indian Regulatory Environment EOK Study Circle - ICAI22/11/2013
    24. 24. Inbound Investment DFCF Gift of Unquoted Equity Shares (Min) NAV Outbound Investment Valuer Discretion Gift of Unquoted Shares other than Equity Shares Price it would fetch if sold in open market Takeover Code/ Delisting - Infrequently Traded Only Parameters Prescribed – Return on Net Worth, EPS, NAV vis-a vis Industry Average Takeover Code/ Delisting - Frequently Traded Based on Market Price Reserve Bank of India ESOP Tax Valuer Discretion ESOP Accounting Option – Pricing Model Income Tax SEBI CA / MB >5Mn$ - MB, otherwise CA/MB - MB MB - CA/MB - Stock Exchanges Preferential Allotment to promoters / their relatives for consideration other than cash Valuer Discretion Companies Act, 1956 Sweat Equity Valuer Discretion CA / MB - Transactions Prescribed Methodologies Mandate to be done by SNAPSHOT OF REGULATORY VALUATIONS IN INDIA Gift of Unquoted Equity Shares from Resident (Max) DCF (Valuation Based on Assets, Business & Intangibles is also acceptable) FCA / MB Preferential Allotment to Others Based on 26 weeks / 2 weeks Market Price - Companies Act, 2013 any property, stock, shares, debentures, securities or goodwill or any other assets or the net worth of the Company or its liabilities To be prescribed REGISTERED VALUER
    25. 25. FEMA Valuation Guidelines EOK Study Circle - ICAI22/11/2013
    26. 26. FDI VALUATION • Notification No. FEMA 20/2000-RB dated May 3, 2000, as amended from time to time deals with Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2000. •In terms of Schedule 1 of the Notification, an Indian company may issue equity shares/compulsorily convertible preference shares and compulsorily convertible debentures (equity instruments) to a person resident outside India under the FDI policy, subject to inter alia, compliance with the pricing guidelines. •The price/ conversion formula of convertible capital instruments should be determined upfront at the time of issue of the instruments.
    27. 27. Particulars Valuation before April 21, 2010 Valuation after April 21, 2010 Guidelines in Force CCI Guidelines In case of FDI Transactions: Listed Company: Market Value as per SEBI Preferential Allotment Guidelines Unlisted Company: DFCF In case of ODI Transactions: No method has been prescribed Methods Prescribed Net Assets Value (NAV) Profit Earning Capacity Value(PECV) Market Value (in case of Listed Company) Discount 15% Discount has been prescribed on account of Lack of Marketability No such Discount has been prescribed Historical / Futuristic It is based on Historical Values It is based on Future Projections Possibility of variation in Value Conclusion As valuation is more Formulae based, final values came standardized As valuation is more dependent on Assumptions and choice of factors like Growth Rate, Cost of Capital etc, value conclusion may vary significantly. FEMA Guidelines to Valuation Note: Valuation guidelines do not apply to SEBI registered venture capital EOK Study Circle - ICAI22/11/2013
    28. 28. 22/11/2013
    29. 29. Discounted Free Cash Flow Method (DFCF) Approaches to FDI Valuation  RBI has prescribed DFCF as the only valuation method in case of FDI (excluding for initial subscription); but has not provided any guidance on its technical aspects. Though DFCF is one of the most acceptable Valuation methods used by Business valuers worldwide; however DFCF for all FDI transactions-excluding for initial subscription (like minority stake/start up valuation etc) may not yield Fair Value in line with the Commercial understanding. However Law being such, suitable Logical adjustments may be necessary on a case to case basis. DFCF expresses the present value of the business as a function of its future cash earnings capacity. In this method, the appraiser estimates the cash flows of any business after all operating expenses, taxes, and necessary investments in working capital and capital expenditure is being met. Valuing equity using the free cash flow to stockholders requires estimating only free cash flow to equity holders, after debt holders have been paid off. EOK Study Circle - ICAI22/11/2013
    30. 30.  Forward Looking and focuses on cash generation  Recognizes Time value of Money  Allows operating strategy to be built into a model  Incorporates value of Tangible and Intangible assets  Only as accurate as assumptions and projections used  Works best in producing a range of likely values  It Represents the Control Value Major Characteristics of DFCF Valuation EOK Study Circle - ICAI22/11/2013
    31. 31. DFCF Valuation Process  Understand Business Model  Identify Business Cycle  Analyze Historical Financial Performance  Review Industry and Regulatory Trends  Understand Future Growth Plans (including Capex needs)  Segregate Business and Other Cash Generating Assets  Identify Surplus Assets (assets not utilized for Business say Land/Investments)  Create Business Projections (Profitability statement and Balance Sheets)  Discount Business Projections to Present (Explicit Period and Perpetuity)  Add Value of Surplus Assets and Subtract Value of Contingent Liabilities EOK Study Circle - ICAI22/11/2013
    32. 32. Free Cash Flows- Value Trend Terminal Value is calculated for the Perpetuity period based on the Adjusted last year cash flows of the Projected period. EOK Study Circle - ICAI22/11/2013
    33. 33. Free cash flows to firm (FCFF) is calculated as EBITDA Taxes Change in Non Cash Working capital Capital Expenditure Free Cash Flow to Firm Note that an alternate to above is following (FCFE) method in which the value of Equity is directly valued in lieu of the value of Firm. Under this approach, the Interest and Finance charges is also deducted to arrive at the Free Cash Flows. Adjustment is also made for Debt (Inflows and Outflows) over the definite period of Cash Flows and also in Perpetuity workings. Theoretically, the value conclusion should remain same irrespective of the method followed (FCFF or FCFE), (Provided, assumptions are consistent). FREE CASH FLOWS Free Cash Flow calculation EOK Study Circle - ICAI22/11/2013
    34. 34. DISCOUNT RATE – WEIGHTED AVERAGE COST OF CAPITAL Where: D = Debt part of capital structure E = Equity part of capital structure Kd = Cost of Debt (Post tax) Ke = Cost of Equity (Kd x D) + (Ke x E) (D + E) In case of following FCFE, Discount Rate is Ke and Not WACC WACC Cost of Capital calculation EOK Study Circle - ICAI22/11/2013
    35. 35. DISCOUNT RATE - COST OF EQUITY Where: Rf = Risk free rate of return (Generally taken as 10-year Government Bond Yield) B = Beta Value (Sensitivity of the stock returns to market returns) Ke = Cost of Equity Rm= Market Rate of Return (Generally taken as Long Term average return of Stock Market) SCRP = Small Company Risk Premium CSRP= Company specific Risk premium Mod. CAPM Model ke = Rf + B ( Rm-Rf) + SCRP + CSRP The Cost of Equity (Ke) is computed by using Modified Capital Asset Pricing Model (Mod. CAPM) Cost of Equity calculation EOK Study Circle - ICAI22/11/2013
    36. 36. PERPETUITY FORMULA – Usually comprises a Large part of Total Value and is sensitive to small changes – Capitalizes FCF after definite forecast period as a growing perpetuity; – Estimate Terminal Value using Terminal Value Multiplier applied on last year cash flows – Gordon Formula is often used to derive the Terminal Cash Flows by applying the last year cash flows as a multiple of the growth rate and discounting factor – Estimated Terminal Value is then discounted to present day at company‟s cost of capital based on the discounting factor of last year projected cash flows (1 + g) (WACC – g) IMPORTANT TIP- It is advised to do Sanity check by applying Relative Valuation Multiples to the Terminal Year Financials and also doing Scenario Analysis. Terminal value calculation EOK Study Circle - ICAI22/11/2013
    37. 37.  Pre Money or Post Money: If the effect of the money coming in Company is taken in Projections, the Expanded capital base should be considered or else the Equity Value should be reduced by the inflow amount to reconcile with the existing capital base.  Terminal growth rate: Since it is tough to estimate the perpetual growth rate of a company, it is preferred to take the perpetuity growth rate factoring in long term estimated GDP of the Country and Historical/Projection Inflation of the Country.  Projection Validation via-a-vis Industry: Need to have Sanity check of the projections with the trend of the industry.  Beta of Unlisted Company: It is calculated on relative basis by adjusting the average beta of its comparable companies for differences in Capital Structure of the unlisted company with the listed peers.  Risk Free Rate: Yield of a Zero Coupon Bond or Long Term government Bond yield should be taken as the risk free rate since it does not have any reinvestment risk . Tricky issues in DFCF EOK Study Circle - ICAI22/11/2013
    38. 38.  Adjustment of Company Specific Risk Premium or Small Company Risk Premium: Small Companies are generally more risky than big companies. CAPM model does not take into consideration the size risk and specific company risk as Beta measures only systematic risk and Market Risk Premium (generally pertaining to Sensex Companies). These risks should also be taken into account while computing the cost of equity.  Length of Projections: The Projected Cash Flows should factor in the entire Business Cycle of a Company.  Notional/Actual Tax: Actual Tax Liability may be worked out and replaced for the Notional Tax Liability  Investments: Investments should be valued separately based on their Independent Cash Flows  Surplus Assets: The Value of Surplus Assets (not being utilized for Business purposes) should be added separately and their cash flows should be ignored while computing the Free Cash Flows. Tricky issues in DFCF (Cont.) EOK Study Circle - ICAI22/11/2013
    39. 39. 22/11/2013
    40. 40. Registered Valuer Companies Act, 2013 EOK Study Circle - ICAI22/11/2013
    41. 41. Registered Valuers Registered Valuers Financial Valuer Technical Valuer • A Chartered Accountant, Company Secretary or Cost Accountant in whole time practice or retired member of Indian Corporate law Service or any other person as prescribed. • A Merchant Banker registered with SEBI and which has in employment under it CA/CS/CWA for carrying out (signing) Valuation by such qualified persons. • Member of the Institute of Engineers or Member of the Institute of Architects in whole time practice. • A person or firm or LLP or Merchant Banker possessing both qualifications may act in dual capacity. Shall have 5 Years of Continuous Experience, Post Qualification Shall have 5 Years of Continues Experience, Post Qualification Stock, Shares, Debentures, Securities, Goodwill Property Persons eligible to apply for being Registered as Valuer Registered Valuer to be appointed by Audit Committee or in its absence by the Board of Directors.22/11/2013
    42. 42. Registered Valuers Registered Valuer Further Issue of Shares Compromise and Arrangements Winding up / Liquidation Non Cash Transactions with Directors Exit to Minority Shareholders Corporate Debt Restructuring Registered Valuers (Financial Valuation) Value Responsibilities • Valuer to make impartial, true and fair valuation • Not undertake valuation if directly or indirectly interested • Exercise due diligence • Valuation to be done as per rules Upon contravention • Fine – 25,000 to 100,000 With intention to defraud • Imprisonment upto 1 year and • Fine- 1,00,000 to 5,00,000 Additionally upon contravention, to refund remuneration received and also liable for damages. EOK Study Circle - ICAI22/11/2013
    43. 43. Section wise Requirement of Registered Valuers Section 62(1)(c) – For Valuing further Issue of Shares Section 192(2) – For Valuing Assets involved in Arrangement of Non Cash transactions involving Directors Section 230(2)(c)(v) – For Valuing Shares, Property and Assets of the company under a Scheme of Corporate Debt Restructuring Section 230(3) and 232(2)(d) – For Valuation including Share swap ratio under a Scheme of Compromise/Arrangement, a copy of Valuation Report by Expert, if any shall be accompanied Section 232(3)(h) - Where under a Scheme of Compromise/Arrangement the transferor company is a listed company and the transferee company is an unlisted company, for exit opportunity to the shareholders of transferor company, valuation may be required to be made by the Tribunal Section 236(2) – For Valuing Equity Shares held by Minority Shareholders Section 260(2)(c) – For preparing Valuation report in respect of Shares and Assets to arrive at the Reserve Price or Lease rent or Share Exchange Ratio for Company Administrator Section 281(1)(a) – For Valuing Assets for submission of report by Company Liquidator Section 305(2)(d) – For report on the Assets of the company for preparation of declaration of solvency under voluntary winding up Section 319(3)(b) – For Valuing the interest of any dissenting member of the transferor company who did not vote in favour of the special resolution, as may be required by the Company Liquidator Section 325(1)(b) – For valuation of annuities and future and contingent liabilities in winding up of insolvent company EOK Study Circle - ICAI22/11/2013
    44. 44. Registered Valuers (Draft Rules) – Methods of Valuation I. Before adopting methods, decide Valuation Approach- • Asset Approach • Income Approach • Market Approach II. Valuer to consider following points while undertaking Valuation- • Nature of the Business and the History of the Enterprise from its inception • Economic outlook in general and outlook of the specific industry in particular • Book Value of the stock and the Financial condition of the business • Earning Capacity of the company • Dividend-Paying Capacity of the company. • Goodwill or other Intangible value • Sales of the stock and the Size of the block of stock to be valued • Market prices of stock of corporations engaged in the same or a similar line of business • Contingent Liabilities or substantial legal issues, within India and Abroad, impacting business • Nature of Instrument proposed to be issued, and nature of transaction contemplated by parties Relates to IRS Revenue Ruling (1959-60),USA
    45. 45. Registered Valuers (Draft Rules) – Methods of Valuation III. Registered Valuer shall make valuation of any asset in accordance with any one or more of the following methods- a. Net Asset Value Method (NAV) b. Market Price Method c. Yield Method / PECV Method d. Discounted Cash Flow Method (DCF) e. Comparable Companies Multiples Method (CCM) f. Comparable Transaction Multiples Method (CTM) g. Price of Recent Investment Method (PORI) h. Sum of the parts Valuation Method (SOTP) i. Liquidation Value j. Weighted Average Method k. Any other method accepted or notified by RBI, SEBI or Income Tax Authorities l. Any other method that valuer may deem fit provided adequate justification for use of suh method (and not any of the above methods) is provided IV. Registered Valuer shall make valuation of any asset as on the Valuation date and in accordance with applicable standards, if any stipulated for this purpose. V. Contents of Valuation report shall contain information as contained in Form 17.3
    46. 46. Registered Valuers (Forms) – Contents of Valuation report 1) Description of valuation engagement (a) Name of the client: (b) Other intended users: (c) Purpose for valuation: (2) Description of business/ asset / liability being valued (a) Nature of business or asset / liability (b) Legal background (c) Financial aspects (d) Tax matters (3) Description of the information underlying the valuation (a) Analysis of past results (b) Budgets, with underlying assumptions (c) Availability and quality of underlying data (d) Review of budgets for plausibility (e) Statement of responsibility for information received
    47. 47. Registered Valuers (Forms) – Contents of Valuation report (4) Description of specific valuation of assets used in the business: (a)Basis or bases of value (b) Valuation Date (c) Description of the procedures carried out (d) Principles used in the valuation (e) The valuation method used and reasoning (f) Nature, scope and quality of underlying data and (g) The extent of estimates and assumptions together with considerations underlying them (5) Confirmation that the valuation has been undertaken in accordance with these Rules (6) Further it is certified that valuation has been undertaken after taking into account relevant conditions/regulations/rules/notifications, if any, issued by the Central/State Government(s) from time to time. (i) The valuation report must clearly state the significant assumptions upon which the value is based. When reporting there may be instances, where there are confidential figures, these must be summarized in a separate exhibit (ii) In his valuation report, the registered valuer must set out a clear value or range of values along with the reasoning (ii) In case the valuer has been involved in valuing any part of the subject matter of valuation in the past, the past valuation report(s) should be attached and referred to herein. In case a different basis has been adopted for valuation (than adopted in the past), the valuer should justify the reason for such differences
    48. 48. Some Specific Tricky Issues EOK Study Circle - ICAI22/11/2013
    49. 49. Discounts • Discount for Entity Level Discounts & Premiums come into picture when there exist difference between the subject being valued and the Methodologies applied. As this can translate control value to non-control and vise versa , so these should be judiciously applied. – Impact on entity as a whole  Key Person Discount  Discount for Contingent Liability  Discount for diversified company  Discount for Holding Company • Discount for Shareholders Level – Impact on specific ownership interest  Discount Lack of Control (DLOC)  Discount Lack of Marketability (DLOM) • Size of distribution or dividends • Dispute • Revenue / Earning – Growth / Stability • Private Company  Tax Payout • % stake & special rights • Shareholders Agreement caveats Global Studies over the years on diversified companies and holding companies has shown that companies trade at a discount in the range of 20%. to 40% each. DLOM: As per CCI Guidelines, 15% discount has been prescribed; however practically DLOM and DLOC depends upon following factors: EOK Study Circle - ICAI22/11/2013
    50. 50. Premium •Control Premium - An investor seeking to acquire control of a company is typically willing to pay more than the current market price of the company. Control premium is an amount that a buyer is usually willing to pay over the fair market value of a publicly traded company to acquire controlling stake in a company Research has shown that the control premium in India has ranged from 20% to 37% in the past few years. EOK Study Circle - ICAI22/11/2013
    51. 51. Excess Cash and Non Operating Assets Excess cash is defined as „total cash (in balance sheet) – operating cash (i.e. minimum required cash) to sustain operations (working capital) and manage contingencies Key Issue: Estimation of Excess Cash ? Non operating Assets are the Surplus assets which are not used in operations of the business and does not reflect its value in the operating earnings of the company. Therefore the fair market value of such Assets should be separately added to the value derived through valuation methodologies to arrive at the value of the company. One of the solutions is to estimate average cash/sales or total balance sheet size of the company’s relevant Industry and then estimate if the company being valued has cash in excess of the industry’s average. What is an asset is not yielding adequate returns ? EOK Study Circle - ICAI22/11/2013
    52. 52. Cross Holding and Investments Holdings in other firms can be categorized into: Types of Cross Holding Meaning Minority, Passive Investments If the securities or assets owned in another firm represent less than 20% of the overall ownership of that firm Minority, Active Investments If the securities or assets owned in another firm represent between 20% and 50% of the overall ownership of that firm Majority, Active Investments If the securities or assets owned in another firm represent more than 50% of the overall ownership of that firm Investment Value Ways to value Cross Holding and Investments: Dividend Yield Capitalization or DCF based on expected dividends Seperate Valuation (Preferred) By way of Shareholders Agreement even less % holding may command control value EOK Study Circle - ICAI22/11/2013
    53. 53. Accounting Practices and Tax issues Most of the information that is used in valuation comes from financial statements. which in turn are made on certain Accounting practices considered appropriate. • Cash Accounting v/s Accrual Accounting • Operating Lease v/s Financial Lease • Capitalization of Expenses • Notional Tax vs. Actual Tax • Treatment of Intangible Assets • Companies Paying MAT • Treatment of Tax benefits and Losses EOK Study Circle - ICAI22/11/2013
    54. 54. Valuation Methodologies and Value Impact Major Valuation Methodologies Ideal for Result Net Asset Value Net Asset Value (Book Value) Minority Value Equity Value Net Asset Value (Fair Value) Control Value Comparable Companies Multiples (CCM) Method Price to Earning , Book Value Multiple Minority Value Equity Value EBIT , EBITDA Multiple Enterprise Value Comparable Transaction Multiples (CTM) Method Price to Earning , Book Value Multiple Control Value Equity Value EBIT , EBITDA Multiple Enterprise Value Discounted Cash Flow (DCF) Equity Control Value Equity Value Firm Enterprise Value EOK Study Circle - ICAI22/11/2013
    55. 55. About Corporate Professionals Offering varied legal & financial services, 'Corporate Professionals' has emerged as an innovative leader in delivering corporate advisory & solutions. Aiming to become a one-stop-shop offering integrated legal and financial solutions, the Group has successfully completed a high number of corporate transactions in the last couple of years. We have successfully engaged in and executed over 3000 assignments of more than 1200 corporate houses, domestic as well as international, across several Industries. The Group has distinctively positioned itself as Merchant Banker (SEBI Cat-I license) with Boutique Investment Banking & Transaction Advisory services and as Legal Advisors with high quality comprehensive Corporate Laws, Tax & Regulatory services. With an endeavor to satisfy our clients' stated as well as unstated needs, we adopt the most feasible and legally viable approach to execute assignments in a seamless, cost effective and time bound manner. High Integrity and Confidentiality in dealing with clients and assignments undertaken is deeply inculcated in our team. The Group prestigiously owns a strong skill set that comes from its research oriented, multi-disciplinary, young and dynamic team. With right blend of legal and financial skills, continuous focus on research and effective use of Information Technology, Corporate Professionals is creating customized products, for different class of clients. Innovative flair of executing assignments with problem solving zeal and use of Technology has enabled us to offer path breaking solutions. Not just for executing Clients' Assignments but also in internal management, the Group adheres to a system driven approach. The Group dedicates around 30% working time of its professional team on continuous research in the dynamic legal and financial fields, with an object of creating a knowledge hub, extensive knowledge dissemination and to develop skills of its team to deliver high quality services. “Corporate Professionals” refers to one or more of group companies and its network of firms and other entities, each of which is a separate legal, independent entity. For more details, please visit www.corporateprofessionals.com.
    56. 56. Mr. Chander Sawhney Vice President M: +91 9810557353 D: +91 11 40622252 E: chander@indiacp.com Mr. Maneesh Srivastava Senior Manager M: +91 9871026040 D: +91 11 40622255 E: maneesh@indiacp.com Mr. Gaurav Kumar Barick Assistant Manager M: +91 8130141874 D: +91 11 40622241 E: gaurav@indiacp.com Mr. Sameer Verma Assistant Manager M: +91 9911945607 D: +91 11 40622216 E: sameer@indiacp.com Our Valuation Team
    57. 57. As Close As You Need As Far As You Go…… Delhi Office D-28, South Ex., Part-I, New Delhi-110049, D-38, South Ex., Part-I, New Delhi-110049, T: +91 11 40622255 M:+ 91 9871026040, E: info@indiacp.com Mumbai Office 520, Mastermind- I, Royal Palms Estate, Aarey Colony, Goregaon East, Mumbai -400065 T: +91 2267109044 M:+ 91 9820079664 E: mahipal@indiacp.com Indian Offices Overseas Offices Our Associates India Ahmedabad, Allahabad, Bangalore, Bhopal, Bhubaneshwar, Chandigarh, Chennai, Coimbatore, Goa, Guwahati, Gwalior, Hyderabad, Indore, Jaipur, Jammu, Kanpur, Kochi, Kolkata, Lucknow, Ludhiana, Patna, Pune. Overseas Bulgaria, Belgium, British Virgin Islands, Canada, China, Costa Rica, Cyprus, European Union, Germany, Hongkong, Ireland, Japan, Kenya, Malaysia, Mauritius, Singapore, Sri Lanka, Switzerland, The Netherlands, Turkey, United Arab Emirates, United Kingdom, United States. Bedford Office (United Kingdom) 2-4 Mill Street, MK40 3HD, Bedford Switchboard: +44 (0) 2030063240, E: ukoffice@indiacp.com
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