Business Analysis and

Valuation (BAV)
Dr. Saurabh Chadha
Corporate Valuation or Firm Valuation or
Business Valuation
• What is a Value?
• If price is too high relative to value.
• If price is too low relative to value.
• Valuing is neither easy nor exact.
• Several Methods have been deployed in this course to do this difficult
task.
• Two Caveats in valuations:
• The true value of a business cannot be established with certainty.
• It is impossible to forecast accurately the FCF and discount rate. Thus, there is an
inescapable element of uncertainty in valuation.
Corporate Valuation or Firm Valuation or
Business Valuation
• Second, a business is not worth the same to different parties. Means
just the way beauty lies in the eyes of the beholder, value lies in the
pocket of the buyer.
Purpose of corporate valuation
• The purpose is basically to estimate a fair market value of a
company.
• Fair Market Value as defined by the Internal Revenue Service (IRS) of
the US is “the price at which the property would change hands
between a willing buyer and a willing seller when the former is not
under any compulsion to buy and the latter is not under any
compulsion to sell, both parties having reasonable knowledge of
reasonable facts.”
Context of Valuation – Why Valuation is done
• Raising capital for a Nascent Venture: Investors like VC and PE
firms value nascent ventures or new businesses to calculate their
expected returns and risk.
• IPO (Initial Public Offering): At what price should the IPO be
made? For this purpose the firm has to be valued properly.
• Mergers or Acquisitions or takeovers or amalgamations: The
valuation is very important to know the intrinsic value of the firm.
Typically, the acquirer has to pay a premium over the prevailing
market price and determining the quantum of premium is always a
challenge.
Context of Valuation – Why Valuation is done
• Divestitures: A divestiture involves the sale of a division or plant or
unit of one company to another.
• PSU Disinvestment: Govt. of India announced that in all PSUs, the
govt. stake will be brought down to 90% or may be less in future. A
valuation has to be done for the 10% stake or as the case.
• Employee Stock Option Plans (ESOP): In determining the exercise
price for ESOP, the valuation of the company, when the company is
unlisted, has to be done.
• Portfolio Management: Valuation matters a great deal to an active
investor who rely more on fundamental analysis.
Approaches to Valuation
Book Value
Approach

Option
Stock and Debt
Valuation
Approach
Approach

Discounted
Relative
Cash Flow
Valuation
(DCF)
Approach
Approach
Approaches to Valuation
• Book Value Approach: Enterprise Value of a firm equals Fixed Assets
+ Investments+Net Current Assets or Book Value
(equity+preference+debt). All the information is sourced from the
balance sheet of the company.
• Stock and Debt Approach: When the securities of a firm are publicly
traded its value can be obtained by merely adding the market value of
all its outstanding securities. Eg. On Mar 31, 2017, the ABC Ltd had
1.5 billion shares outstanding and closing price is Rs 20 per share. The
outstanding debt of the company with a market value is Rs 21 billion.
What is the EV of the firm?
Approaches to Valuation
• Discounted Cash Flow Approach (DCF): Conceptually similar to
valuing a capital project using the present value method. Several
modes of DCF valuation are:
• Enterprise DCF Model or FCFF and WACC (Cash flows available to all
investors after meeting CE and WC requirements.)
• Equity DCF Model or FCFE and Ke (Cash flow available for distribution to
equity shareholders after the firm has met its obligation toward other investors
like Debt, Pref. Equity and CE & WC requirements.)
• Adjusted PV Model and Economic Profit Model. Economic Profit = Invested
Capital (ROIC – WACC)
Approaches to Valuation
Relative Valuation:
• EV Multiples like EV/Sales, EV/EBITDA, EV/EBIT. Equity
Multiples like P/E and P/B. or Trading Comparable Company
Analysis or Simply Trading Comps
• Simple Valuation Formula VT = XT *(VC / XC), where VT = Value of the target
firm, XT is the observed variable of the target firm like EBITDA, Vc is the value
of the comparable firm and Xc is the observed variable of the comparable firm.
• Transaction Multiples
• Option Valuation Approach: Black and Scholes Model for Call or Put
Option.
Bias and Uncertainty in Valuation
• Prior Perception about the company. Like Already read something about
the company good or bad or undervalued or overvalued.
• Current market price of the company indirectly influences our valuation.
• Institutional pressures influences our valuation.
• To mitigate bias effects, one should avoid pre-commitments to
valuation, delink valuation from reward or punishments or other
institutional pressures.
• Risk of Estimation or Firm specific or Macro economic uncertainty. To
avoid, better give valuation ranges through scenario analysis.
Valuation Complexity
• As Aswath Damodaran says: “if we value an asset with three inputs
we should not use five. If we can value a company with three years
of cash flow forecasts, forecasting 10 years of cash flows is asking
for trouble.”

• In other words, keep it simple.

• The investment banking industry employs three basic valuation
models for EV calculation of firm: Relative valuation (Trading
Comps), Transaction multiples or Comps and DCF Valuation.
Information Needed for Valuation
• Industry and Competition: Market (Size, trends, structure), Characteristics
of competitors and nature of competition.
• Operations: Products and Services, Cost structure, suppliers, R&D etc.
• Marketing and Sales: Customer base, Sales trends, pricing policies etc.
• Human Resources: Employee strength and compensation policies.
• Historical Financial Information: Historical (IS, BS, CF), information
about exceptional and extraordinary items.
• Financial Projections: Projected (IS, BS and CF) and other assumptions.
Intrinsic Value (IV) Vs Market Value (MV)
• Intrinsic Value based on fundamentals whereas market value is
affected by emotions and market mispricing.
• Company exploits such deviations in IV and MV by:
• Issuing additional share capital when MV greater than IV.
• Buying back shares when MV is less than IV.
• Paying for acquisitions with shares instead of cash, when share is overvalued.
• Divesting particular business when market multiples are higher than justified
by fundamentals.
Thank You