Valuation

Conceptual Framework

Valuation - The task of estimating the

worth / value of an Asset, a Security, a
Brand, an Employee or of a Business.

It is the price an investor or a buyer firm

is willing to pay to purchase a specific
asset, security, brand, employee or a
business unit.
Contd.
In the case of business valuation, the
valuation is required of tangible
assets, intangible assets as well as
of human resources.

Subjective consideration is involved

in the task and process of valuation.
(Depends upon the stakeholders
interest)
Contd.

e.g. while deciding value of a

business unit recorded liabilities as
well as unrecorded contingent
liabilities will also be considered.
Concepts of various Values

Book Value of an Asset , of a Business

Unit
Market Value of a tangible asset,
security
Intrinsic / Economic Value of an asset,
a share --- it is the present value of
incremental future cash inflows using an
appropriate discount rate.
 Contd.

Liquidation Value represents the price at

which each individual asset can be sold if
business operations are discontinued.
Liquidation Value = Realisable Value of
assets + Cash & Bank Liquidation Charges

Replacement Value Cost of acquiring a

new asset of equal utility and usefulness.
Contd.

Fair Value It is hybrid in nature. It is the

average of book value, market value and
intrinsic value.

Salvage Value Realisable scrap value

on the disposal of assets after the expiry
of their economic useful life.
 Valuation of Goodwill
Value of Goodwill When
ROR of the business > ROR of other similar firms

When earning super profit

In the case of Merger & Acquisition:

Goodwill = Purchase ConsiderationNet Assets
 Why Businesses Are Appraised
Mergers and Acquisitions Financing

Estate and Gift Tax Ad Valorem Taxes

Employee Stock Ownership Plans Initial Public Offering

Liquidation or Reorganization of a Damages Litigation (the process

Business of taking a dispute to a law court)

Buy-Sell Agreements Insurance Claims

Stockholder Disputes Charitable Contribution

Financial Reporting
 Revenue Ruling (Factors
To Consider)
Nature of the business and history of the enterprise
since its inception.

The economic outlook in general and the condition

and outlook of the specific industry in particular.

The book value of the stock and the financial

condition of the business.
 Contd.
The earning capacity of the company.

The dividend-paying capacity.

Goodwill or other intangible value.

Sales of the stock and the size of the block of

stock to be valued.
 Realizable Value vs.
Replacement Cost

The debate on Realizable Value vs.

Replacement Cost becomes very serious
while the negotiation is taking place between
purchaser and seller.
 Realizable Value

The purchaser may insist on the realizable

value of the asset. Strategically and financially,
any new entrant to the market should buy the
latest asset for competitive advantage. So,
buyer and seller both would quote convenient
realizable value .
 Replacement Cost

The cost is the price to be paid for replacing the

present facility with a similar one based on its
availability in the market.

In the absence of such availability, the price of

latest plant may be discounted for various
disadvantages of the old plant and the latest
replacement cost may be computed as follows:
 Contd.

M. P. at Dis. for lesser

the end of the yr. * annual capacity *

Dis. for _ Discounted value of saving

Lesser useful life in operating cost and price
advantage due to better
quality
 Valuation of the companys
Intrinsic Strength
It explains the earning power of a co.s
employees, brands and exclusivity of its
technology and systems. Valuation of the
companys Intrinsic Strength will be decided as
follows:

1. Compute Average Rate of Growth for 4 to 5 yrs.

For performance parameters like: Profitability,
Investment turnover, Market share, ROCE
 Contd.

2. Projection of performance parameter for the

subsequent year.

3. Computation of the total weighted value of all

the performance parameters of the co. and of
the industry.

i. Computation of the comparable value

ii. Computation of the total weighted-value
 Contd.
4. Computation of the Performance Index.
PI = Total weighted value for co.
Total weighted value for industry average

5. Computation of Intrinsic Value as follows:

Inflated Value of Performance Index Intrinsic

Net Worth * of the Company Value of Co.
 Methods for Valuation:

Based on Future Cash Flows:

Limitations:

1. No. of years for projecting cash flow

2. Rate of earning
 Contd.

Based on Market Capitalization:

i.e. current total market value of its outstanding
shares or the value of all shares issued.

Limitations:
M. P. does not represent the overall performance
of the co.
Equity base may be small which shows higher
value of share.
 Contd.
Cant be applied for unlisted co.

Fluctuation in M.P. doesnt show realistic market

condition.

The method doesnt give details regarding

employee and brand strength.

Different prices at different market.

 Components of Business
Valuation

Value Inflated value Value of Value of

of Busi. = of physical & + brands & + human
Org. tangible ass. intangible ass. resource
 Brand Valuation
A well nurtured brand is the end result of :

Employees extra ordinary performance or

Organizational culture or
An ethical approach to business or
High-tech systems or
External value drivers: vendors, dealers, etc. or
Visionary promoters and owners.
 Contd.

While evaluating a brand on sale, consider :

Brands strength
Sustainability &
Earning power
 What or Who is a Brand?
Product &
Processes
Program & Practice, a
Brand

Employees &
Organization Organization Culture, a
Name, a Itself a Brand
Brand Brand

Visionary
Vendors & External
Leaders &
Distributors, a
Owners, a Value-drivers
Brand
Brand
 Methods of Brand Valuation:
Super Profit Method:

Formula:

Discounting Total Profit Profit of an

factor * of an _ enterprise
enterprise without brand
in n yrs. In n yrs.
 Cost of Acquisition or Cost
of Nurturing Method:
Cost paid on acquiring be considered.
It may not indicate the true or intrinsic strength
of brand. - Valuation as per Goodwill valuation.

Initial cost paid for acquiring or promoting a

brand will be adjusted during the products life
cycle.
 Contd.
Current value of
the brand

Market appreciation

Initial cost of Corrective and Cost of making Leadership cost

acquisition it exclusive
Sustenance
or promotion
cost
 Contd.

Drawbacks:
Doesnt consider earning power of the brand.
Market Appreciation added to the brand is a
subjective computation.
Doesnt consider the exclusivity of the brand
from the other value-drivers.
 Brand valuation, when the
whole enterprise is a brand:
Some times, one cannot identify a product or
process or programme as an exclusive brand at
that time all the value drivers brought together and
an enterprise will be made as a big integrated
brand and the premium enjoyed by such an
enterprise becomes the value of the brand. Value of
the business is as follows:
Formula:
Intrinsic Value of _ Inflated value of the assets
an enterprise of an enterprise
 Circumstances for the Method:

When the buyer acquires the whole of the enterprise.

A going concern values itself and exhibits such
premium enjoyed by it, in its Balance Sheet.
When one co. becomes the brand-equity or brand-
name for the whole of the group.
Valuation of the business unit as a brand is to be
used as a base for computing the brand-value of
each value-driver in the value-chain of the unit.
 Valuation of the Human
Resources as a brand:
The leading value-drivers, top executives or
divisional heads-sensitive divisional heads, could
be a brand.

CEOs of the most profitable corporation, enjoy

brand-value in the market.

Process of treating human resources as a brand

may be summarized as follows:
 Contd.

Total Brand Value of

Entrepreneurial employees

Employees
Knowledge
Skill
Employees
or
System-based
Employees
60% weightage
30% weightage
10% weightage Most Indispensable

Most Dispensable Moderately Indispensable

 Employees Valuation
Approaches:
Cost Approach: total cost incurred on developing
employees may be capitalized as an asset and
shown in the balance sheet, with yearly alterations
on account of recurring developmental costs
incurred further.
Intrinsic Approach: the total discounted value of
future compensation payable is increased or
decreased by the performance index of the
enterprise. It explains the overall intrinsic value of
an enterprises potential.
 Contd.

Compensation Approach: discounted value of the

total future compensation payable to key
employees for their remaining tenure with the
organisation may be the ultimate valuation. The
approach is based on mercantile accounting
principle of the cost of acquiring an asset.
Drawback: High profile org. may be unnecessarily
valued at a higher price, which doesnt show true
value.
 Contd.
Remainder Approach: It is notional and
subjective, as it depends upon the computation of
non-branded employees performance in an
organization.
Formula:
Discounting Total Profit Profit of an
factor * of an _ enterprise
enterprise without branded
in n yrs. employees In n yrs.
 Valuation of Value-Drivers:

The Outsourcing / Value-Chain Approach can be

used to find out the cost and contribution
associated with every value-driver or factor of
production. The sum of such contributions, if
deducted from the total contribution achieved by
the organization; will give the value of the value-
drivers of the organization.
 Computation Process:

Total contribution/profit achieved by org. ------

Less: Identifiable contribution by value-drivers:
Supply chain managers ----
Production managers ----
System distribution mana. ----
Personnel and HR function ----
Finance and Accounts Function ----
Strategy and Planning Cell ---- ------
Annual surplus contributed by Brand Image ------
 Contd.

The surplus offered by the brand for n yrs. may be

discounted at a rate applicable to average market
conditions.
Assumption:

Total contribution Sum of identifiable

achieved by an > contribution made by
Organization in n yrs value-drivers in organization
in n yrs.
 Contd.

Value-drivers brand-image or brand-surplus is

always more than the surplus contributed by the
value-drivers.
 Financial Aspects of Brand
Management:
Brand Management has become a key issue and a
strategic exercise for growth-hungry organisation.
Key aspects of Brand Mgt. :
1. Locating / creating / acquiring a suitable a brand
2. Nurturing the brand
3. Complementing the brand
4. Brand leadership
5. Brand modification
6. Brand replacement
 Contd.
Approaches to Brand Management:
The Macro Approach:
People
Organisation Products Process
Leading to Compelling to
as a as Programs
Brand Brands as
Brands

The Micro Approach:

People Processes
& Products &
Leading to Compelling to Organisation
Programs as
as Brands as
Brands Brand
 Contd.

Both approaches have advantages & disadvantages.

Promoters of Organisation decides the approaches to

brand creation and nourishment.
 Contd.
Financial aspects of each phase:
1. Locating / creating / acquiring a suitable a brand:
i. Financial valuation of a brand to acquire or
financial budget on creating a brand.

ii. If the organisation is a brand, convert

organisations brand-value to products strength
incurring following expenses:

Incur promotional cost to identify the product

with organisation.
 Contd.
Include organisations saleable features into a
brand as synonym of its products.
Cover up a value-organ based on org.s
strength in value-chain.

iii. Financial quantification of the risks associated

with brand risk of the brands exclusivity,
brands non-saleable features, weakness of
complementary brands, other value-drivers not
acquired with brand.
 Contd.
2. Nurturing the brand: - nurture, alter & enrich the
brand
To gain market leadership, perpetual sustainability and a
capacity to offer similar strength to the new product of the
org.
i. Financial quantification of the intrinsic strength of the
brand, viability to incur nurturing cost.
ii. Economic analysis of the scope available for adaptations
and alterations.
iii. Strategic advantages of a nurtured brand to be further
quantified.
iv. Nurturing processes, people and programmes to support
the brands strength for medium term financial budget.
 Contd.
Complementing the brand: with sub-brands
like processes, people, policies, & program
i. Cost-benefit analysis of the impact of
complementary services and products.
ii. Financial quantification of the risk associated with
the complementary items.
iii. Possibility of a sub-brand replacing or threatening
the main brand.
iv. Financial assessment of the value-chain of the
sub-brands. Value-chain could have a great
impact on the main brands supply chain.
 Contd.
Brand Leadership:
A detailed financial analysis of the pros and cons of a
brands overall leadership is must. The gaps in distri-
bution network may cause serious disadvantages of
a brands leadership.
Retailers may sell competitors brands under the
leaders umbrella.
Leadership aims at expanding the market.
Competitors may enjoy an undue share of such
expanded market at the cost of your brands
leadership.
 Contd.

Excessive exposure to the market may bring down

the brand to unacceptable levels.
Retailer may use the promotional campaign of your
brand , for promoting competitors brands.

Hence, financial budget for nurturing the

brands leadership has to be chalked out. As
follows:
 Contd.
Performance Budget Financial Budget
1. Locate the weaknesses of 1. Do brands SWOT analysis
the brand and make it self with reference to market.
sustaining.
2. Create organisational and 2. Spend to rectify loose ends
market-related support, to and gaps in the value-chain
make it market-leader. and gear up market response.
3. Locate and build up 3. Incur cost to add new values
exclusive features of the to the brands value-chain
brand to offer perpetual and spend for further
strength to brand. promotion by highlighting
4. Keep an eye on factors other features.
threatening its leadership 4. Spend on a monitoring
system.
 Contd.
Brand Modification:
Areas:
Refreshing its acceptable features.
Corrections for adaptations to new market conditions.
Change in the presentation of the brand.
Should have bigger value-addition strength to suit the
value-chain of the customer.
Financial aspects:
Related to R & D which requires a fantastic market
intelligence base.
 Contd.

Brand Replacement:
A product dies but not a brand reverse also possible. The
most complex situation is when both, the product & the brand
are sick and are on death-bed, use the chemistry of market
data-base, financial engineering and courage rectify situation.
Undertake cost-benefit analysis:
Brand replacement, product is same.
Product replacement, brand is same.
Brand and product both are replaced.
No replacement only refinement. ( partial replacement )
 Contd.
Financial Aspects:
1. Brand replacement depends on market volatility and
maturity. Budget for careful withdrawal of old brand &
without allowing competitor to fill up by a new brand.
2. For Total reincarnation exp.- research &
development, market development, new brand
development.
3. Partial replacement planned, implement cautiously.
Replaced features must get merged into the brand
and product.
 Brands Life Cycle and various
Phase-wise Valuations:

A rational parameter, to judge the strength and

survival of the brand, must be developed and used.

Such parameter could be its phase-wise valuation

exercise.
 A brand is
Created or
Acquired-both
Actual &intrinsic Valuation of a
Valuation of a brands strength
valuation
Sickening or To take off &
Dying brand Succeed
Valuations :
-Actual
-Notional
Valuation of a Valuation of a
-Intrinsic
Perpetual strength brands
-Accounting
Of a brand which Networking
Becomes a self- strength,
Generating source Brand to offer To create sub-
Of strength Organisational & brands & other
Market advantages Supportive factors
To other brands
In the same group of
Companies-strategic
valuation