There are several methods of valuing unlisted shares, including five approaches to unlisted value equity, which we will cover in this article.
Many concepts are essential when it comes to the stock market, and valuation is one of them. As far as the stock valuation is concerned, everything depends on it.
The stock becomes easier to value, however, if it is listed on one of the largest stock exchanges and is typically traded daily.
There is no market price available for unlisted stocks, so it is hard to determine their fair value.
Understanding that everything related to unlisted shares depends on the assumptions or the book value is essential.
Furthermore, if there is a material change in the company’s situation, you must change the valuation as soon as possible.
It might be due to a decrease in the company’s credit rating, or it could also be due to a lawsuit filed by its customers or clients.
Regardless of whether the company makes a breakthrough invention.
Unlisted shares Valuation
Whenever there are unlisted shares, they are valued according to the fair market value (FMV) method. Because they are not listed on a stock exchange, and therefore there is no actual market price for unlisted shares, the FMV is calculated by the underwriters or the investment bankers to determine the shares’ value.
A company’s fair market value is determined by subtracting its liabilities from its assets and using that difference as the basis for the calculation.
By subtracting the book value of all the company’s liabilities from the book value of its assets, You can calculate the fair market value.
FMV = (A-L) * PV/PE
Fair market value is calculated by subtracting the book value of all liabilities from the book value of all assets.
Calculating fair market value involves subtracting all liabilities (L) from the book value of all assets (A).
A company’s fair market value is determined by subtracting its liabilities from its assets and using that difference as the basis for the calculation.
Unlisted stocks in India are valued using the following five internationally accepted methods of valuation of shares .
- Recent Transaction Price Method
- Book Value Method
- Present Value Method or Price to Earnings Ratio
- Net Asset Value – Including Goodwill and Identified Intangibles
- Net Asset Value – Excluding Goodwill and Identified Intangibles
Fair market value is calculated by subtracting the book value of all liabilities from the book value of all assets.
Let’s take a closer look at these five methods.
Recent Transaction Price Method
According to its name, this is a method in which the last price at which the unlisted stock was traded can be used as a basis for the calculation. It is important to note that, for this method to work, both parties involved must be independent.
Therefore, if you purchase or sell one of these shares, you don’t have any pressure to buy or sell them. There must be a self-interest on the part of both parties.
There are only a small number of investors who use this method. It is because the unlisted stock market experiences very infrequent transactions due to the fact that they are unregistered.
Valuation of unlisted stocks using the book value method
Book value of share meaning is that we calculate the book value of the assets and liabilities of companies based on their book values.
Some companies follow international accounting standards so that they can use this method. You can check the balance sheet and the company’s financial statements to verify the same.
This method goes according to the fact that you must combine all of the tangible assets’ book values to proceed.
Taking all tangible liabilities together, you need to subtract their book value from the asset’s value, as mentioned above. Then You must deduct the difference from the book value of all tangible liabilities.
A fair value must be applied to the assets, and the assets and liabilities must be revalued regularly.
The downside of this method is that you may also need to calculate a capitalization ratio and then apply the same to your investments.
Goodwill is the only intangible asset permitted to be a valuing asset, and no other intangible asset can be a valuing asset. Because goodwill cannot be generated by itself, You can add it to goodwill.
Unlisted Shares Valuation Using Present Value Method or Price to Earnings Ratio
An essential aspect of the valuation of a company is to consider its cash flow. This method requires that you anticipate how the company’s cash flow will develop over the next few years.
It will then be discounted with an implicit discount rate based on the future cash flows we will generate. From the listed companies in the same industry, you can derive a discount rate that you should be using.
It is crucial to consider the company’s recent earnings to calculate future cash flows.
It is also possible to use the industry’s price-to-earnings ratio to discount the cash flows by using it as the discount rate. The discounted cash flow method (DCF) is called the discounted cash flow method (DCM).
The formulae for DCF are –
DCF = {CF1/(1+r)1} + {CF2/(1+r)2}+………{CFn+(1+r)n}
= n∑t=1 CFt/(1+r)t
Goodwill and Identified Intangibles are included in the Net Asset Value
The current price of all assets is taken into account in this method.
In contrast to book value, NAV is based on the current prices of shares found in the market, as opposed to historical prices, which are used in the book value method.
Assuming that the market price is considered, you must calculate the total assets and liabilities.
To determine the types of value of shares, we must subtract the value of liabilities. To calculate the value of an asset under this method, both tangible and intangible assets (that can be identified) are considered.
A recent appraisal within the past year is considered in the method.
Goodwill and identifiable intangibles are excluded from the Net Asset Value
This method is similar to the one immediately above. However, the only difference is that it excludes the goodwill and intangible assets and liabilities while the above includes the same.
Under this method, the assets’ and liabilities’ values are considered at their current market price.
Conclusion
Unlisted company can be valued at the liberty of utilizing several methods. Still, the Present Value or discounted cash flow method is usually used, and the book value method is also popular.
All the others are very rarely used except for these two. Investing in unlisted shares requires a thorough understanding of the valuation.
The company’s valuation is complicated because it lacks financial data and information.
To find out the fair market value of unlisted shares, you need to gather all the relevant information and then process it well to learn as much as possible about the company.
FAQs –
What are cash flows?
In cash flows, money is paid and received for products, services, or non-operational activities.
An operational cash flow, such as the payment of a debtor’s dues, is a cash inflow.
It is also an operational cash outflow if the company pays its suppliers for raw materials.
Financial statements and the valuation of a company are heavily dependent on cash flows.
What is NAV?
Net asset value is also known as NAV. As a result of deducting the value of the firm’s liabilities from its assets, the firm’s net asset value is calculated.
What are intangible assets and liabilities?
You cannot measure intangible assets and liabilities.
For example, goodwill cannot be measured in kilograms, liters, or pieces but has value.
What is the book value of a company?
The difference between the value of the assets and liabilities of a company determines the book value.
Taking the value of all assets as per the balance sheet, we subtract the value of all liabilities.
What is the present value?
An estimate of a future cash flow’s present value is a discounted amount based on a given discount rate. You can use this to predict future stock, company, or other investment valuations.
How is fair market value determined in income tax?
There shall be no deduction for any amount representing provision for taxation, other than the amount of income tax payable if any, less any amount of income tax which has been claimed as a refund, if any, to the extent of the excess over the tax payable with reference to the book profits as determined by law.
What is the most appropriate valuation method for an unlisted company?
DCF or relative valuation is the best method to value them in comparison with a listed company in the same industry. For example, price to sales, price to book or enterprise value to earnings can be compared.
How to know share price of unlisted company?
Babli Investment displays the current market price of an unlisted stock on their websites for all the unlisted stocks available for investment.
What is unquoted shares meaning?
Stock exchanges and organized financial markets do not trade unquoted shares.