Valuation Of Shares Of A Start-up Company

Valuation Of Shares Of A Start-up Company

Valuation of shares means the process of defining the price per share of the Company, i.e. the market value.


Valuation Of Shares Of A Start-up Company

The Government of India launched the Start-up India initiative for the growth of start-ups. It’s being used as a platform for communication and benefit. Valuation of shares means the process of defining the price per share of the Company, i.e. the market value. Valuation of shares is a requirement under certain provisions of the Companies Act, 2013. A start-up must obtain a Valuation Report, in the following circumstances:

  • For the issue of securities such as equity shares, preference shares, optionally or fully convertible debentures or such other instruments
     
  • For the issue of shares other than on cash consideration
     
  • For the issue of sweat equity shares     


However, for the right issue, a valuation report is not mandated. 

The type of valuation method to follow affects the final valuation of the business of the Company, based on different criteria that have to be taken into consideration. But not all the valuation methods suit a startup. The following are the methods that can be applied:

Discounted Cash Flow Method (DCF)
Under the income-based valuation, the DCF method is widely followed. Here, the present value of all the future cash flow of the business is calculated to reach an estimate of the cost of the business. 

Net Asset Value Method (NAV)
Here, the amount of assets is reduced by the liabilities to reach a net value of the business. However, for a start-up, this may not show a clearer picture of the future of the business and thus is not followed much. 

Market Value Method (MV)

This method is adopted by companies whose shares are listed on the stock exchanges. But in the case of start-ups, will not be applicable as the majority of start-ups are not listed. 

As stated above, the DCF method should be followed and is also recommended by Income Tax Rules for the valuation of shares. The Rules also prescribe the Book Value method, which calculates the net assets of the company based on the balance sheet. 

Valuation Of Shares Under Fresh Issue

As per Rule 11, UA (2) (a) of Income Tax Rules, 1962, the book Value method is prescribed, where the Fair Market Value (FMV) = (A-L) * (PV)/(PE)

 A = Book Value of assets

  • reduced by the amount of tax deducted or collected at the source or advance tax adjusted for refunds
     
  • Any amount is shown in the balance sheet as an asset including the unamortized amount of deferred expenditure which does not represent the value of the asset. 


L = Book value of Liabilities not including the following

  •  the paid-up capital for equity shares
     
  • the amount set aside for dividends for equity and preference where such dividends have not been declared before the date of transfer at the AGM
     
  • reserves and surplus, even if the amount is negative, other than those set apart for depreciation
     
  • provision for taxation adjusted for tax payments and refunds to the extent of the excess of tax payable concerning the book profits
     
  •  the amount representing provisions made for liabilities other than ascertained liabilities
     
  • any amount representing contingent liabilities other than arrears of dividends payable in respect of cumulative preference shares;


PV = Paid-up value of such equity share

PE = Total amount of paid-up capital (equity) as per balance sheet

Valuation Date = Date on which the property/ consideration is received by the taxpayer

An audited balance sheet as on the date of valuation is to be considered. In case if such a balance sheet is not available then the balance sheet adopted in the last held Annual General Meeting of the members of the Company, will be considered. 

Valuation Of Shares In Case Of Transfer Of Shares

As per Rule 11UA (1) (c)(b of Income Tax Rules, 1962, the book Value method is prescribed, where the FMV = (A+B+C+D-L)* (PV)/(PE)

 A= book value of all the assets (other than jewellery, artistic work, shares, securities and immovable property) in the balance sheet —

  • reduced by the amount of income tax paid adjusted against refunds claimed
     
  • any amount is shown in the balance sheet as an asset including the unamortized amount of deferred expenditure which does not represent the value of the asset
     

B = Fair value of jewellery and artwork based on valuation report from a registered valuer

 C = fair market value of shares and securities as per rule 11UA;

 D = Stamp value of immovable property;

 L = Book value of Liabilities not including the following

  • the paid-up capital for equity shares
     
  • the amount set aside for dividends for equity and preference where such dividends have not been declared before the date of transfer at the AGM
     
  • Reserves and surplus, even if the amount is negative, other than those set apart for depreciation
     
  •  Provision for taxation adjusted for tax payments and refunds to the extent of the excess of tax payable concerning the book profits
     
  • The amount representing provisions made for liabilities other than ascertained liabilities
     
  •  any amount representing contingent liabilities other than arrears of dividends payable in respect of cumulative preference shares;   


PV= the paid-up value of such equity shares;

 PE = total amount of paid-up share capital (equity) as shown in the balance sheet

 Valuation Date = Date on which the property/ consideration is received by the taxpayer

Thus, based on the statutory requirement and the need of the Start-up, a valuation method should be adopted. 

 
Edited by Team CLIQTAX

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