VALUATION OF SHARES
Need For Valuation of Shares
1. At the time of amalgamation and absorption.
2. When unquoted shares are to be bought or sold.
3. At the time of converting preference shares and
debentures into equity shares.
4. Where a portion of shares is to be given by a member
of proprietary company to another member as a
member cannot sell it in the open market it becomes
necessary to certify the fair price.
5. For the valuation of the assets of a finance or
investment trust company.
6. At the time of assessment by the income tax
authorities for the purpose of estate duty, capital
gain, wealth tax and gift tax.
7. When a company is nationalised and the
compensation is payable by the government.
8. When a company acquires majority of the shares
of another company for the purpose of acquiring a
controlling interest in another company.
9. When shares are pledged as a security against a
loan.
10. At the time of paying court fees.
11. When shares are purchased by employees of a
company to be kept by them during the tenure of
their service.
12. At the time of purchase and sale of shares in
private companies.
13. When partners hold shares of a company for
ascertaining the amount to be distributed amongst
them on dissolution of the firm.
14. For satisfying dissentient shareholders in the case
of reconstruction of a company under section 494.
Factors affecting valuation of shares
1. The basic or principle factor in the valuation of
shares is the dividend yield that the investor
expects to get as compared to the normal rate
prevailing in the market in the same industry.
2. Growth prospects of the company.
3. Demand and supply of shares.
4. The nature of the business of the company
concerned.
5. Dividend policy of the company and percentage of
dividend declared in the part.
6. Past performance of the company.
7. Govt. policies in relation to companies business.
8. Accumulated reserves of the company.
9. Economic climate.
10. The income yielding capacity of the company.
11. Size of the business.
12. Net Asset position of the company.
13. Availability of ready market for future sale.
14. Management of the company.
15. Prospects of bonus or right issue.
16. Political factors prevalent peace and prosperity in the
country and governments attitude towards the industry.
Methods of valuation of shares
Net Assets Method or Intrinsic Value or Net worth
Method.
(1) Including goodwill
(2) Excluding goodwill
 Yield Method or Earning Capacity or Market Value
Method
 Fair Value Method

Method 1- Net Assets Method or
Intrinsic Value or Net worth Method



The value of shares is calculated by dividing the net
assets of the business by the no. of equity shares.
All the assets from the asset side of balance sheet
are summed up , then liabilities appearing on the
liabilities side are deducted. Also less any probable
loss or expenses .
The value arrived is the amount available for equity
shareholders.
Points to remember Non-Trading assets such as investments should also be
included.
 Fictitious assets are excluded.
 All the assets should be taken at their market value.
 If preference share capital appears in the balance
sheet then the total amount of preference share capital
and the payment of any type of dividend in arrears on
them should also be deducted from the total value of
assets.
 If Net Assets including goodwill is to be calculated,
calculate the value of goodwill according to methods
done earlier.
All Assets
(Except fictitious assets)
All Outside Liabilities
Balance
Preference Share Capital
Any Dividend in arrears
Net assets for equity
shareholders
XXX ( At realisable value,
if give, otherwise at
book value)
(-) XXX
XXX
(-)XXX
(-)XXX
XXX
Merits
1.
2.
3.
4.
5.
It is very simple and logical method for calculating the
value of shares.
This method is mostly used by taxation authorities.
Present value of goodwill is also considered under this
method.
As the net realisable value of assets is taken into
consideration this method is useful for company going
into liquidation.
Preference share capital is given preference over
equity and deducted from assets like other liabilities.
Demerits
1.
2.
3.
4.
This method is not suitable for growing companies.
As goodwill is taken into consideration, it is difficult
to calculate the value of goodwill.
This method leads to personal biasness as the
market price of the asset is to be quoted which is
very difficult to ascertain.
This method is not reliable one, as it includes the
intangible asset such as goodwill, trademarks etc.
Method II-Yield Method or Earning
Capacity or Market Value Method
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Under this method the value of the shares are
calculated on the basis of its prospective earnings.
Market value of assets and liabilities is not
considered.
Value of shares is calculated by comparing the
expected earnings of the company with normal rate
of return on investment.
This method is based on the philosophy that
shareholders values the return which he receives
and not the earnings of the company.
1. Calculation of expected rate of return:

Profits available for dividend to equity X 100
Paid up equity share capital
2. Value of equity shares:

Expected rate of return X Paid up value of share
Normal Rate of Return
3. Expected profits available for equity shareholders:
Profits
-
-
Amount for tax charges
Amount to be transferred to reserves
Amount to be transferred to Debenture Redemption Fund
Preference Dividend if any
Valuation of minority and majority
holdings
Value of shares incase of majority holdings is
ascertained by the method based upon the
expected rate of earnings whereas incase of
minority holdings the value of shares is better
calculated by adopting expected rate of dividend
rather than expected rate of earning, main reason
being small investors are generally interested in the
dividend rather than the expected rate of earnings.
 Value of Share =
Possible rate of Dividend X Paid up value of Share
Normal Rate of Dividend
Merits
1.
2.
3.
This method is most reasonably accepted because
this method is based upon comparison between
expected rate of return with normal rate of return.
This method is useful incase of minority holdings
since they are interested in the profits earned by
the company and dividends paid to them.
It is best suited to the company which is a going
concern.
Demerits
1.
2.
3.
4.
5.
Problems while selecting the normal rate of return.
Major drawback is that it doesn’t take into
consideration the value of net assets of the
company.
It is not suitable for the company which is going
into losses for the past few years.
The method contains various difficulties while
application of this method.
Predicting the future maintainable profits is quite
difficult.
Method III- Fair Value Method
Fair Value of Shares =
Intrinsic value + Yield value
2
This method removes the disadvantages of both
intrin.sic method and yield method