MES - Pillai Institute of Management Studies and

Research (PIMSR),
New Panvel

Master of Management Studies (MMS)

(Batch : 2022 – 2024)

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 MMS - Semester–III

Subject (Core): Corporate Valuation and Mergers &

Acquisitions (CV&MA)

Chapter- 1 : Overview of Corporate Valuation

(Theory only)
Lecture date : 14.9.2023
by
Dr. K.G.S. MANI
PhD (Investment Risk Management), M.Com(Finance), M.Com(Banking)
MBA(Finance & Fin. Services), MBM(Bank Mgmt.) MIM(Investment Mgmt.)
PGDFM(Fin. Mgmt), PGDMA(Mgmt. Accts), CAIIB, DBM, DFS, DCM,
DMFM, DTRIM, DCL, DBL, CFT(Certified Faculty & Trainer from IIBF &
NIBM)
(Retired Senior Foreign Banker)
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Lecture date : 14.9.2023
Chapter-1: Overview of Corporate Valuation

Learning Outcomes (Learning Objectives):

The Learning Objectives of this chapter are mentioned below:
(1) To understand basic concepts of valuation.
(2) To know the essential aspects of Corporate valuation.
(3) To learn various valuation methods.
(4) To understand corporate valuation in practice with companies.

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Lecture date : 14.9.2023
Chapter-1: Overview of Corporate Valuation
(1) Meaning of Valuation : Value of a company indicates the net
assets as shown in the books of accounts. The valuation of the
Company is based on the net assets. It is the simplest form of
valuation of business enterprise. The net assets valuation is the
difference between the assets and liabilities based on their
balance sheet values. The capital structure of a company
includes both debt amount (long term loans) (borrowed capital)
and equity capital (owned capital). The equity value of a
company is equal to the value of the shareholders’ claims in the
company.
The valuation is required not only for tangible assets (such as
plant and machinery, land and buildings, office equipments, etc)
but also for intangible assets (like goodwill, brands, patents,
trademarks, etc) and also human resources, which run the
business.

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(2) Essentials of Corporate Valuation :
(i) Essentially, corporate valuation is required to be done for making
comparative study of financial performance between two
companies.
(ii) Valuation is done to make benchmark comparison of a company
with Industry benchmark of various parameters.
(iii) Goal of business is to provide higher return (EPS) to the equity
shareholders (owners) and to maximise the market value of equity
shares and value of business.
(iv) Market price is based on the present EPS, growth in EPS in future,
risk based earnings, dividend payment policies and retention of
profits (ploughing back of profits)
(v) Valuation is required for merger and acquisition of business, joint
ventures, and other corporate marriages, etc.
(vi) Valuation requires expert knowledge in corporate valuation
methodologies and approaches.
(vii) Wealth of the equity shareholders is represented in the market
price of equity share.
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(3) Concepts of Valuation :
The following concepts are applied in the valuation of business :
(i) Book Value (BV) : Book value is the value at which assets
are shown in the balance sheet of the company. Book Value of
a business refers to total book value of all valuable assets
( excluding fictitious assets, such as accumulated losses and
deferred revenue expenditures like advertisement, preliminary
expenses, cost of issue of securities not written-off) less all
external liabilities (including preference share capital). It is
also referred to as net worth of the company.
(ii) Market Value (MV) : Market value refers to the price at
which an asset can be sold in the market. MV can be applied
with respect to tangible assets only. Intangible assets do not
have any sale value. MV of the business refers to the aggregate
market value (as per stock market quotation) of all equity
shares outstanding. The MV is relevant to listed companies
only. (For unlisted companies shares are not quoted in market).

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(iii) Intrinsic Value (IV) : Intrinsic value is based on the net assets
of the company. It is based on book value, which is in tune with the
going concern principle of accounting. For this purpose, it is
assumed that the company goes into liquidation and therefore, the
tangible and intangible assets are valued satisfactorily, and the total
external liabilities are deducted from the value of realisable assets.
The asset value is divided by the number of equity shares to arrive
at the intrinsic value per share.

(iv)Fair Value (FrV) : Fair Value is the average of book value,

market value and intrinsic (economic) value. It is a hybrid value in
nature and often is the average of these three values. In India, the
concept of fair value has evolved from court cases (and hence it is
more Statutory in nature) and is applicable to certain specific
transactions, like payment to minority shareholders.

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(v) Liquidation Value (LV) : Liquidation value is the price at which
an asset can be sold if the company is liquidated. It represents the
price at which each individual asset can be sold if business
operations are discontinued due to liquidation of the company. The
liquidation value of a business is equal to the sum of (i) realisable
value of assets, and (ii) cash and bank balances minus amounts
required to discharge all external liabilities. In general, among all
measures of value, the liquidation value of an asset/or business is
likely to be the least.

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(4) Context of Valuation : (Why the valuation is required ?)
Corporate valuation is done in the following situations :
(i) Raising Capital for New Business(IPO),
(ii) Follow-on Offer( FPO),
(iii) Acquisitions (when one company acquires another company),
(iv) Purchase of a business division (buying one division only)
(example: HUL purchased Horlicks Division from Glaxo India Ltd)
(v) Divestitures (divestment of stakeholder)(partly selling the stake to
another company to induct other Co’s directors on the board),
(vi) PSU Disinvestment (examples: BDL, IOC, NTPC, SAIL total Rs
72,500 crores)
(vii) Employee Stock Option Plans(ESOP) (examples: Infosys, TCS)
(viii) Portfolio Management (example: Mutual Funds for calculation of
NAV and Unit Price)
Note : Corporate acronym :
Extend the Business, Expand the Market, Enhance the
corporate value (for shareholders)
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(4) Various Approaches to Corporate Valuation:
There are various approaches and these are broadly classified
into: (i) Non-Discounted Cash Flow approaches (Non-DCF Cash
Flow) and (ii) Discounted Cash Flow approaches (DCF). (Note:
These were taught to students under Capital Expenditure Decisions
in Sem-II). However, in this chapter, these approaches are applied
for corporate valuation (explained in detail in the subsequent
Chapters-4 and 5. Again under these two approaches, there are
different methods, which are presented below :
(i) Valuation methods based on Accounting Concept :
(1) Book Value method (also known as Balance Sheet method),
(2) Market Value method,
(3) Intrinsic value method,
(4) Fair value method,
(5) Liquidation Value method,
(6) Net Income method, (taught in Sem-II under Fin. Mgmt),
(7) Net Operating Income method (taught in Sem-II in Fin. Mgmt)
(8) Return on Capital Employed method (ROCE method)
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(ii) Valuation methods based on Dividend concept :
(1) Walter’s method (dividend model)
(2) Gordon’s method (dividend model)
(3) Modigliani and Miller method (M & M method) (these are
taught in Semester-II under Financial Management subject),
(4) Intrinsic value method (Non-DCF approach)
(5) Dividend Yield method (Non-DCF approach)
(6) Dividend Discount method (DCF approach)
(7) Price-Earnings method (Non-DCF approach)

(iii) Valuation methods based on Earnings concept :

(1) Earnings Yield method (Non-DCF method),
(2) Earnings Discount method (DCF method)
(3) Free Cash Flow to Firm (FCFF) method (DCF approach)
(4) Free Cash Flow to Equity (FCFE) method (DCF approach)

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(5) Corporate valuation in practice :
(i) Discounted Cash Flow valuation:
In mergers and acquisitions transactions involving a financial
buyer, such as a private equity firm SBI Equity Funds, HDFC
Equity Funds, the DCF approaches are used with a primary focus
on internal rate of return (IRR). Financial buyers generally
develop a cashflow forecast for a period of about 5 years, estimate
a terminal value and apply a discount rate (that reflects their
required IRR) to establish the acquisition price.

(7) Other important considerations in corporate valuation :

(i) Appropriate Capital Structure (Optimum Capital structure),
(ii) Debt component in Capital Structure :
High Debt, Low Debt or Debt-free (Examples: (1) High debts –
Wockhardt Pharma Ltd, (2) Low Debt – Reliance Industries Limited,
(3) Debt-free – ITC Limited, (4) High Equity – Steel Authority of
India)(SAIL)

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(iii) Large amount of Equity capital : Higher Earnings per Share (EPS)
will lead to higher Market Price per Share (MPS). But High equity
amount will lead to low Earning per share(EPS). This will affect the
Market Price of share (MPS) (example : High Equity – Steel
Authority of India) (It’s EPS is always low because of huge capital
base and MPS is low).
(iv) Reserves & Surplus :
The companies do not distribute the entire distributable profit to
equity shares (after payment of dividend to Preference Shares).
Every year, after payment of Preference Dividend, companies shall
transfer certain percentage of net profit to General Reserve as per
Companies Act 2013. From out of remaining profit, approved
percentage of net earnings are retained in the business (known as
ploughing back of profit) and the remaining amount of earnings is
known as ‘distributable profit’ to equity share holders. It will be
distributed to Equity Shareholders as dividend. If the retained
earnings are higher, the valuation of Company will go up. (Recall
this point from Dividend chapter in Financial Management taught
in Semester-II).
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Recommended Books (for Corporate Valuation):
(1) Corporate Valuation by Dr Prasanna Chandra (former Professor of
Finance, IIM, Bangalore)
(2) Damodaran on Valuation by Dr Damodaran (Professor of Finance
at Stanford University, USA) (Excellent book, very high standard)
(3) Mergers & Acquisitions (The Art of Science) bookby Asish Patel.
(4) Creating Value for Mergers and Acquisitions book by Sudi
Sudarsanam
(5) Company Valuation – Measurement and Management book by
Prof. Vinod Vasant Sople (Himalaya Publishing House, Mumbai).
(6) Business Valuation Management – Corporation Valuation book by
PK Bandgar (Himalaya Publishing House, Mumbai)
(7) My comprehensive study notes on Corporate Valuation.

Note : All these books are available at PIMSR Library.

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THANK YOU

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