3 Methods of valuation of shares

Valuation of shares

Generally shares of the company are valued at the following cases:

1)      At the time of the assessment by income tax authority.

2)      At the time of the raising loans.

3)      At the time of the paying court fee.

4)      At the time of the valuing the assets of the company.

5)      At the time of the purchase and sale of the shares in private company.

6)      At the time of the purchase and sale of unquoted shares.

7)      At the time of the amalgamation and absorption.

8)      At the time of the converting preference shares into equity shares.

9)      At the time of the nationalization of the company.

Methods of valuation of shares

1)      Net asset or intrinsic value or net worth or breakup value method:– in this method value per share is arrived by dividing the net asset of the company by number of equity shares. The calculation of net asset is done by adding all the asset at the market value, net investments are included and if there is preference share capital it should be deducted from it. For example; land and building+ plant and machinery+ furniture+ stock+ debtors+ bill receivable+ cash+ goodwill-debentures-current liabilities-preference share capital-dividend arrears/ number of equity shares.

This method is beneficial as it take into account goodwill, useful method when company is going into liquidation, and also accepted by taxation authorities. But at the same time not suitable for growing company.

2)      Yield or Earning capacity valuation or income method: – in this method the valuation of share is done by comparing expected rate of return with normal rate of return. If ERR> NRR than market value of share is more than the paid up amount. Otherwise market value of share is less than the paid up value. This method follows the following steps:

i)                    Calculate expected profit available for equity shareholders———– it is calculated by including the taxation, transfer to reserve, transfer to debenture redemption fund, preference dividend. This is the amount available to the equity shareholders.

ii)                   Now next step is to calculate the expected rate of return

ERR = amount available to equity shareholders *100/ paid up equity share capital

iii)                 Last step is to calculate value of share

               Value of share= ERR* Paid up value per share/NRR

 This method is suitable for growing companies and small investors but this method fails to consider net asset of the company.

3)      Fair value or dual method: – this method is the combination of both the above methods.

                  Fair value of share= intrinsic value+ yield value/2

These are the 3 methods of valuation of shares.

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