Valuation of Financial Securities and Assets
Approaches & Methods
A valuation approach is the method used to determine the value or attractiveness of an investment opportunity or business. There are mainly three approaches for valuing a subject asset or an entity. They are all based on the economic principles of price equilibrium, anticipation of benefits or substitution.
Valuation using this approach considerns the price of a recent transaction, or the price of comparable assets using couple of methods
Precedent Transaction Method compares subject asset with identical or similar asset, which is being transacted recently in the principle or advantageous market. Factors like market condition prevailing in two different time frames, restriction on the usage of assets, location of assets, period of the recent transaction, etc. are considered while comparing companies/ assets
Comparable Public Company Method or Relative Method is based on the premise that the value of any entity can be estimated by analysing how the market prices of ‘similar’ or ‘comparable’ entity moves by using certain financial ratios or multiples, such as the price to book value, price to earnings, EV/EBITDA, etc., of the equity in question to those of its peers.
Valuation using this approach considerns an enterprise current earning ability or present value of its future earnings.
Discounted Cash Flow Method (DCF) uses financial projections for 3 to 5 years based on appropriate asumptions for the purpose of valuation. Cost of equity % is used to discount the free cash flow to equity and terminal value to arrive at the present value of cash flows or Enterprose Value (EV). Adjustments are made to this to arrive at equity valuation.
Profit Earning Capacity Value Method (PECV) uses average industry earning rate over the average after tax profits of the subject entity pertaining to past performance as well as future estimates. This method tries to establish an estimate of entity’s Future Maintainable Profits (FMV).
Liquidation Value is the estimated realizable value of the assets of the corporate debtor if the corporate debtor were to be liquidated on the insolvency commencement date
The cursory reading of the regulation shows that estimated value of the assets of the corporate debtor at the time of the liquidation on the commencement date of the insolvency will be considered as the liquidation value for the purpose of the Insolvency process and such value will be used in the Information Memorandum under Regulation 36 of the CIRP Regulations. This estimated value is based on the principle of vertical comparison as used under the United States Bankruptcy Code. According to this principle, the creditor should not be placed in a situation which is worse than the situation at the time of liquidation of the assets of the corporate debtor.
Valuation using this approach considerns the value of a business or investment can be determined based on the cost to rebuild or replace the business
Cost to Build Method is either based on NAV or SOP. Net Asset Valuation Method arrives at Company's Net Asset Value (NAV) by deducting Fair market value of its liabilities from Fair market value of its assets. If market inputs are not available, Book Value is used as basis for valuation. Under Sum of Parts (SOP), the value of a company is based on the value of the different parts or divisions of a business.
Cost to Replace Method can be based on Replacement or Reproduction. Replacement method determine what it would cost to set up the business if it were being started now. Reproduction method determines value by calculating the cost to recreate a replica of an asset