The Art and Science of Share Valuation:

Companies Act, 2013 Vs. Income Tax Act,1961

CA (Dr) Prithvi Ranjan Parhi
Chartered Accountant and Registered Valuer

“Your wealth is in many ways dependent on what other people will pay for your assets.”
-Peter Bernstein

Context
What an asset is worth depends on who wants to buy it.
As no one would like to pay for an asset more than its value, it is inevitable to do a valuation of the asset
to know its real worth. Knowledge of value of an asset is an indispensable requirement prior to any
investment or financing decision. That is perhaps the reason for recent growth of valuation practices
among finance professionals. Understanding the mechanism of valuation in different scenarios is a sine
qua non for all finance professionals. This article is an attempt to explain at a basic level, the methodology
of valuation to comply with the requirements of the Companies Act, 2013 and Income Tax Act,1961 .
Concepts
The concepts of ‘value’, ‘valuation’ and ‘valuer’ in the context of a financial asset such as shares or
securities of a company, can be appreciated with the help of the following definitions.

• A value is an estimate of the value of a business or business ownership interests, arrived at by

applying the valuation procedures appropriate for a valuation engagement and using professional
judgment as to the value or range of values based on those procedures.
-Para 6.43 ICAI Valuation Standard 101
• The word “value” refers to the judgement of the valuer of the estimated amount consistent with one
of the bases of value set out in International Valuation Standard (IVS) 104 Bases of Value.
-Para 20.16, Glossary, International Valuation Standard
• A “valuation” refers to the act or process of determining an estimate of value of an asset or liability
by applying IVS.
-Para 20.14, Glossary, IVS
 • The term valuer as used in this Framework means the registered valuer registered with the
Registering Authority under Section 247 of the Companies Act 2013 and Rules made thereunder
for carrying out valuation of assets belonging to a class or classes of assets.
• The term valuer also includes a valuer undertaking valuation engagement under other Statutes
like Income Tax, SEBI, FEMA, RBI etc.
-Para 29 & 30 Framework of ICAI Valuation Standard
The Cocktail of Valuation
The contemporary valuation practice is acceptedly viewed as a blend of application of principles of
science as well as art. While the process involves use of scientific methods of Financial Management,
Financial analysis, projections, discounting etc, it also involves judgements, forecasts, understanding of
both internal and external environment. Moreover, it involves understanding the mindsets of the people
for whom valuation exercise is to be conducted.
Certain legislations in our country suggests a rule-based approach and dictates the methodology to be
followed to arrive at the fair value. Valuation on such premises has to be made in compliance with the
defined rules and the scope of applying professional judgment in that premises is very limited. The
Income Tax Act, 1961 suggest such approaches vide Rule 11U, 11UA and 11UAA of Income Tax Rules,
1962.
Some other legislations allow the valuer to apply his professional judgement, experience, expertise and
estimation to arrive at the value by complying with a set of standards. For instance, Section 247 (1) of
the companies Act, 2013 suggests that where a valuation is required to be made in respect of any assets
or net worth of a company or its liabilities it shall be valued by a registered as a valuer. The registered
valuer takes into consideration the valuation base, valuation premises, types of value suitable in a given
scenario and decides a method of valuation following a standardised valuation approach. The
International Valuation Standards Council and Valuation Standards Board of the Institute of Chartered
Accountants of India have issued Valuation Standards with an objective to standardise the various
principles, practices and procedures followed by registered valuers and other valuation professionals in
valuation of assets, liabilities or a business.

I. Valuation under Companies Act,2013

Section 247 of the Companies Act,2013 requires that, where a valuation is required to be made in respect
of any property, stocks, shares, debentures, securities or goodwill or any other assets or net
worth of a company or its liabilities under the provision of this Act, it shall be valued by a person having
such qualifications and experience and registered as a valuer in such manner, on such terms and
conditions as may be prescribed and appointed by the audit committee or in its absence by the Board of
Directors of that company.

The valuer appointed as such shall, —

a) make an impartial, true and fair valuation of any assets which may be required to be valued;
b) exercise due diligence while performing the functions as valuer;
c) make the valuation in accordance with such rules as may be prescribed; and
 d) not undertake valuation of any assets in which he has a direct or indirect interest or becomes so
interested at any time during a period of three years prior to his appointment as valuer or three
years after the valuation of assets was conducted by him.

The valuer shall while conducting a valuation, comply with the valuation standards. In this context,
Valuation Standards as of now means;
a) internationally accepted valuation standards;
b) valuation standards adopted by any registered valuer’s organisation.
Bases of Value
A registered valuer in his report describes the fundamental premises on which the reported values are
based. It is critical that the basis (or bases) of value be appropriate to the terms and purpose of the
valuation assignment, as a basis of value may influence or dictate a valuer’s selection of methods, inputs
and assumptions, and the ultimate opinion of value. A valuer may be required to use bases of value that
are defined by statute, regulation, private contract or other documents. Such bases have to be interpreted
and applied accordingly.

As per ICAI Valuation Standard

102 - Valuation Bases,
Valuation base means the
indication of the type of value
being used in an engagement.
Different valuation bases may
lead to different conclusions of
value. Therefore, it is important
for the valuer to identify the
bases of value pertinent to the
engagement. This Standard
defines the following valuation bases:
a) Fair value;
b) Participant specific value; and
c) Liquidation value
A valuer shall select an appropriate valuation base considering the terms and purpose of the valuation
engagement.
It is to be appreciated that the International Valuation Standard and ICAI Valuation Standard suggests
different types of valuation bases and a valuer needs to carefully adopt a valuation base appropriate to
the situation.
Premise of Value
Premise of Value refers
to the conditions and
circumstances how an
asset is deployed.
In a given set of
circumstances, a single
premise of value may
be adopted while in
some situations multiple
premises of value may
be adopted by a valuer.

Valuation Approach
Valuation approach refers to a way of estimating value that employs one or more specific valuation
methods. Consideration must be given to the relevant and appropriate valuation approaches. One or
more valuation
approaches may be
used in order to arrive at
the value in accordance
with the basis of value.
The three approaches
described and defined
below are the main
approaches used in
valuation. They are all
based on the economic
principles of price
equilibrium, anticipation
of benefits or
substitution.
The principal valuation approaches are:
a) Market approach.
Market approach is a valuation approach that uses prices and other relevant information generated
by market transactions involving identical or comparable (i.e., similar) assets, liabilities or a group of
assets and liabilities, such as a business.
b) Income approach
Income approach is the valuation approach that converts maintainable or future amounts (e.g., cash
flows or income and expenses) to a single current (i.e., discounted or capitalised) amount. The fair
 value measurement is determined on the basis of the value indicated by current market expectations
about those future amounts.

c) Cost approach
Cost approach is a valuation approach that reflects the amount that would be required currently to
replace the service capacity of an asset (often referred to as current replacement cost).
Valuation Method
Within valuation approaches, a specific way to estimate a value is referred to as a Method of Valuation.
As per ‘ICAI Valuation Standard 303 - Financial Instruments’, in selection of the approach and method,
a valuer shall also give due consideration to the control environment under which the entity and the
instrument operates. The control environment consist the entity’s internal governance and control
objectives, procedures and their operating effectiveness with the objective of enhancing the reliance on
the valuation process and outcome thereof. A valuer, if relying on valuation inputs provided by the entity,
shall form independent opinion on the valuation control environment and factor outcome on the valuation
method, approach, outcome and reporting thereof.
A registered valuer appreciates the bases of value and valuation premises and selects a valuation
method within an appropriate valuation approach. The value arrived at may be different under different
approaches and methods.
Use of Valuation Techniques
A valuer shall use valuation techniques that are appropriate in the circumstances and for which sufficient
data is available to measure the value, maximising the use of relevant observable inputs and accordingly
minimising the use of unobservable inputs.
The value is thus arrived at by application of valuation techniques and methods within valuation
approach(s) in a specific valuation premises.

II. Valuation under Income Tax Act,1961

Valuation under Income Tax Act, 1961 is conducted in a different manner. The Rule 11UA of Income Tax
Rules,1962 largely explains the method of determination of value of shares and securities for the purpose
of Income Tax Act, 1961. The other rules viz. Rule 11UAA and Rule11U are also relevant.
The following picture explains the various aspects of valuation under Income Tax laws.
11UA (1) (c) valuation of shares and securities
A. Quoted Shares
As per Rule 11UA (1) (c) (a) of the Income Tax Rules,1962, the fair market value of quoted shares and
securities shall be determined in the following manner, namely, —
i. if the quoted shares and securities are received by way of transaction carried out through any
recognized stock exchange, the fair market value of such shares and securities shall be the
transaction value as recorded in such stock exchange;

ii. if such quoted shares and securities are received by way of transaction carried out other than
through any recognized stock exchange, the fair market value of such shares and securities
shall be, —
a) the lowest price of such shares and securities quoted on any recognized
stock exchange on the valuation date, and

b) the lowest price of such shares and securities on any recognized stock
exchange on a date immediately preceding the valuation date when such
shares and securities were traded on such stock exchange, in cases where
on the valuation date there is no trading in such shares and securities on any
recognized stock exchange;

B. Unquoted Equity Shares

Rule 11UA(1) (c) (b) of the Income Tax Rules,1962 deals with valuation of unquoted equity shares. As
per the rule, the fair market value of unquoted equity shares shall be the value, on the valuation date, of
such unquoted equity shares as determined in the following manner.
Fair market value of unquoted equity shares =(A+B+C+D - L) × (PV) / (PE),
Where,
A= book value of all the assets (other than jewellery, artistic work, shares, securities and immovable
property) in the balance-sheet as reduced by;
i. any amount of income-tax paid, if any, less the amount of income-tax refund claimed, if
any; and
ii. any amount shown as asset including the unamortised amount of deferred expenditure
which does not represent the value of any asset;
B = the price which the jewellery and artistic work would fetch if sold in the open market on the basis
of the valuation report obtained from a registered valuer;
C = fair market value of shares and securities as determined in the manner provided in this rule;
D = the value adopted or assessed or assessable by any authority of the Government for the purpose of
payment of stamp duty in respect of the immovable property;
L= book value of liabilities shown in the balance sheet, but not including the following amounts, namely;
i. the paid-up capital in respect of equity shares;
ii. the amount set apart for payment of dividends on preference shares and equity shares
where such dividends have not been declared before the date of transfer at a general body
meeting of the company;
iii. reserves and surplus, by whatever name called, even if the resulting figure is negative,
other than those set apart towards depreciation;
iv. any amount representing provision for taxation, other than amount of income-tax paid, if
any, less the amount of income-tax claimed as refund, if any, to the extent of the excess over
the tax payable with reference to the book profits in accordance with the law applicable
thereto;
v. any amount representing provisions made for meeting liabilities, other than ascertained
liabilities;
vi. any amount representing contingent liabilities other than arrears of dividends payable in
respect of cumulative preference shares;
PV = the paid-up value of such equity shares;
PE = total amount of paid-up equity share capital as shown in the balance-sheet;
C. Unquoted Shares other than Equity
As per Rule 11UA (1) (c) (c) of the Income Tax Rules,1962, the fair market value of unquoted shares and
securities other than equity shares in a company which are not listed in any recognized stock exchange
shall be estimated to be price it would fetch if sold in the open market on the valuation date and the
assessee may obtain a report from a merchant banker or an accountant in respect of which such
valuation.
D. Unquoted Equity Shares for Sec 56(2)(viib)
As per section 56(2) of Income Tax Act,1962, following income, shall be chargeable to income-tax under
the head "Income from other sources", namely
………where a company, not being a company in which the public are substantially interested, receives,
in any previous year, from any person being a resident, any consideration for issue of shares that exceeds
the face value of such shares, the aggregate consideration received for such shares as exceeds the fair
market value of the shares:
Provided that this clause shall not apply where the consideration for issue of shares is received—
(i) by a venture capital undertaking from a venture capital company or a venture capital
fund or a specified fund; or
(ii) by a company from a class or classes of persons as may be notified by the Central
Government in this behalf:
In this context, the fair market value of the shares shall be the value—
(i) as may be determined in accordance with such method as may be prescribed; or
(ii) as may be substantiated by the company to the satisfaction of the Assessing Officer,
based on the value, on the date of issue of shares, of its assets, including intangible assets
being goodwill, know-how, patents, copyrights, trademarks, licences, franchises or any other
business or commercial rights of similar nature,
whichever is higher;

Prescribed Method for Sec 56(2)(viib) of Income Tax Act,1961

As per Rule 11UA (2) the fair market value of unquoted equity shares for the purposes of sub-clause (i)
of clause (a) of Explanation to clause (viib) of sub-section (2) of section 56 shall be the value, on
the valuation date, of such unquoted equity shares as determined in the following manner under clause
(a) or clause (b), at the option of the assessee. Therefore, there are two options for the assessee.

Option #1
(a) the fair market value of unquoted equity shares = { (A–L) / PE} × (PV),

where,
A = book value of the assets in the balance-sheet as reduced by any amount of tax paid as deduction
or collection at source or as advance tax payment as reduced by the amount of tax claimed as refund
under the Income-tax Act and any amount shown in the balance-sheet as asset including the unamortised
amount of deferred expenditure which does not represent the value of any asset;
L=book value of liabilities shown in the balance-sheet, but not including the following amounts, namely:
i. the paid-up capital in respect of equity shares;
ii. the amount set apart for payment of dividends on preference shares and equity shares where
such dividends have not been declared before the date of transfer at a general body meeting of
the company;
iii. reserves and surplus, by whatever name called, even if the resulting figure is negative, other
than those set apart towards depreciation;
 iv. any amount representing provision for taxation, other than amount of tax paid as deduction or
collection at source or as advance tax payment as reduced by the amount of tax claimed as
refund under the Income-tax Act, to the extent of the excess over the tax payable with reference
to the book profits in accordance with the law applicable thereto;
v. any amount representing provisions made for meeting liabilities, other than ascertained liabilities;
vi. any amount representing contingent liabilities other than arrears of dividends payable in respect
of cumulative preference shares;

PE = total amount of paid up equity share capital as shown in the balance-sheet;

PV = the paid up value of such equity shares; or
Option #2
(b) the fair market value of the unquoted equity shares determined by a merchant banker as per the
Discounted Free Cash Flow method.

Fair Market Value for share other than quoted share for Section 50CA
As per Sec 50CA of Income Tax Act, 1961, where the consideration received or accruing as a result of
the transfer by an assessee of a capital asset, being share of a company other than a quoted share, is
less than the fair market value of such share determined in such manner as may be prescribed , the value
so determined shall, for the purposes of section 48, be deemed to be the full value of consideration
received or accruing as a result of such transfer:

Rule 11UAA. Of Income Tax Rules, 1962 explains that, for the purposes of section 50CA, the fair market
value of the share of a company other than a quoted share, shall be determined in the manner provided
in sub-clause (b) or sub-clause (c),as the case may be, of clause (c) of sub-rule (1) of rule 11UA .
This clause (b) and (c) are already discussed in this article under the headings ‘Unquoted Equity
Shares’ and ‘ Unquoted Shares other than Equity’.
Conclusion
The methodology of valuation suggested under the Companies Act, 2013 are very different from the
methodology of valuation suggested under the Income Tax Act,1961 and Income Tax Rules,1962. This
obviously may lead to two different values even if valuation is conducted by one and the same valuer. A
valuation practitioner is expected to have complete knowledge of the provisions of relevant Acts, Rules
made thereunder and the Valuation Standards. As companies are now required to comply with valuation
requirements almost on an ongoing basis, the practitioners are expected to be updated at all times.

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