Valuation of equity shares from an appraiser's perspective

Jonáš Baldík
Equity valuation is a discipline that requires knowledge from many different areas - in today's article, we'll cover the basics.

In the last article, we introduced the basic ways of valuing equity interests from an accounting perspective - in today's article, we will introduce a rather different discipline, namely business valuation (and the associated valuation of an interest in that enterprise). First, however, we need to identify the most important differences from accounting valuation.

First of all, it is important to look at the subject matter of the valuation - while accounting regulations (at least the Czech ones) are creditor-oriented and in many respects prefer form over substance (e.g. In terms of recognizing assets acquired under leases that are not visible on the balance sheet, although they are used by the company and often function as full-fledged assets), valuers prefer the "economic view": they are more concerned with content over form (thus, they treat the above-mentioned leases similarly to IFRS) and their aim is to present information to the owners of the companies (although there are valuation methods that are creditor-oriented).

Secondly, it is important to note that while accounting valuation is based on historical prices (and thus on underlying data), valuers focus on the future, and thus the result of their work can be described as a kind of fiction (by which the author does not want to degrade this discipline in any way - business valuation is a demanding discipline, It is not even intended to find an exact value - its purpose is to give an idea of the possible value that a company could have at a certain date, which can help in making decisions about acquisitions, mergers, etc.).

The valuation itself is divided according to the so-called bases of value (i.e., the purpose for which the valuation is made) - the most common bases of value are market valuation (a valuation that aims to answer the question "How much would a given business be worth in an arm's length transaction between two average market participants on a given date?") and the investment value (a valuation that answers the question of what a given business is worth to a particular investor on a particular date). There are, of course, more bases of value, but I consider these to be the most important.

The actual valuation is then carried out using valuation methods - which we divide into three categories:

1) Income -> "What is the present value of the future income of the company at a specific date?"
2) property -> "What is the fair value of the company's assets?"
3) market comparison -> "What price are similar businesses trading at?"

For businesses that have an assumption of long duration, the most common income methods (the most used is the DCF or Discounted cash flow method). For businesses that have a limited lifetime (or for valuations done for creditors), property methods are again essential (the most important of these methods is the liquidation method, which answers the question "How much would I get if I liquidated the business, paid all liabilities, and sold off all assets?"). The last method focuses again on price reasonableness - by comparing it with capital market data, we learn whether similar businesses are paid significantly more or less than our chosen business.

Once we have a valuation of the whole business, valuing only a share of it is just a matter of simple maths and any deductions/additions to the price (e.g. if I am only buying a 5% share of a company, I cannot expect to pay 5% of the price for the whole business - the right to control the company is usually included in that price – aforementioned 5% share should be cheaper).

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Tomáš Uvíra
Tomáš Uvíra
Audit and Accounting Director