Following are the particulars of EFT limited, basing on which compute the value
of a share under: (i) Net Assets Method and (ii) Yield Method.
Equity share capital 100 fully paid ₹ 40, 00,000
9.5% Debentures ₹ 20,00,000
Fixed Assets ₹ 50,00,000
Goodwill ₹ 3,00,000
Trade investments ₹ 5,00,000
Non trade investments ₹ 7,00,000
Current Assets ₹ 6,50,000
Current Liabilities ₹ 4,00,000
Profits after tax for the last three years were ₹ 8, 00,000, ₹ 7, 00,000 and ₹ 6, 00,000
Expected Normal rate of return is 15%.
Answers
Answer:
Let us make in-depth study of the five methods of valuation of shares, i.e., (1) Asset Backing Method, (2) Yield-Basis Method, (3) Fair Value Method, (4) Return on Capital Employed Method, and (5) Price-Earning Ratio Method.
A. Asset-Backing Method:
Since the valuation is made on the basis of the assets of the company, it is known as Asset-Basis or Asset- Backing Method. At the same time, the shares are valued on the basis of real internal value of the assets of the company and that is why the method is also termed Intrinsic Value Method or Real Value Basis Method.
This method may be made either:
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(i) On a going/continuing concern basis; and
(ii) Break-up value basis.
In the case of former, the utility of the assets is to be considered for the purpose of arriving at the value of the assets, but, in the case of the latter, the realizable value of the assets is to be taken. Under this method, value of the net assets of the company is to be determined first.
Thereafter, the net assets are to be divided by the number of shares in order to rind out the value of each share. At the same time, value of goodwill (at its market value), investment (non-trading assets) are to be added to net assets. Similarly, if there are any preference shares, those are also to be deducted with their arrear dividends from the net assets.
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However, this following step should carefully be followed while calculating Net Assets or the Funds Available for Equity Shareholders:
(a) Ascertain the total market value of fixed assets and current assets;
(b) Compute the value of goodwill (as per the required method);
(c) Ascertain the total market value of non-trading assets (like investment) which are to be added;
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(d) All fictitious assets (viz, Preliminary Expenses, Discount on issue of Shares/Debentures, Debit-Balance of P&L A/c etc.) must be excluded;
(e) Deduct the total amount of Current Liabilities, Amount of Debentures with arrear interest,” if any, Preference Share Capital with arrear dividend, if any.
(f) The balance left is called the Net Assets or Funds Available for Equity Shareholders.
The following chart will make the above principle clear:
Computation of Net Assets
Alternatively:
Net Assets = Share Capital + Reserves and Surplus Revaluation – Loss on Revaluation
Applicability of the Method:
(i) The permanent investors determine the value of shares under this method at the time of purchasing the shares;
(ii) The method is particularly applicable when the shares are valued at the time of Amalgamation, Absorption and Liquidation of companies; and
(iii) This method is also applicable when shares are acquired for control motives.
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Illustration 1:
From the following Balance Sheet of Sweetex Ltd. you are asked to-ascertain the value of each Equity Share of the company:
Balance Sheet
For the purpose of valuing the shares of the company, the assets were revalued as: Goodwill Rs. 50,000; Land and Building at cost plus 50%, Plant and Machinery Rs. 1, 00,000; Investments at book values; Stock Rs. 80,000 and Debtors at book value, less 10%.
Valuing Shares of the Company
Intrinsic Value of each share = Funds available for Equity Shares/Total Number of Shares
Intrinsic Value of shares = Rs. 3, 30,000/20,000
= Rs. 16.50.