Chapter 5: Valuation Standards — Revision Notes

1. Overview & Purpose

Valuation Standards = established rules, principles, procedures guiding valuation
professionals for consistency, reliability, transparency.
Key purposes served:
Consistency & Comparability
Reliability & Trust
Transparency & Disclosure
Risk Mitigation
Compliance with Regulatory Requirements
Professional Development

2. Global Valuation Standards (MCQ trap: match body → standard)

Body Standard

IVSC (International Valuation Standards IVS

Council)

TEGoVA (European Group of Valuers EBVS (European Business Valuation Standards)

Association)

CICBV (Canadian Institute of Chartered Practice Standards & Code of Ethics

Business Valuators)

RICS (UK) Red Book — land/property/construction/infra

ASA (American Society of Appraisers, US) Standards across business valuation, machinery,
real property

3. Structure of Valuation Standards (typical sections)

1. Introduction & Purpose
2. Framework & Principles (3 approaches)
3. Definitions & Terminology
4. Valuation Approaches
5. Risk & Uncertainty
6. Documentation & Reporting
4. Boundaries of Valuation Standards
Scope Limitations
Ethical Considerations
Legal & Regulatory Compliance
Global Applicability
Updates & Revisions

5. Principles Underlying International Valuation Standards

Independence & Objectivity
Transparency & Disclosure
Professional Competence
Ethical Conduct
Consistency & Comparability

6. ICAI Valuation Standards — Framework Qualitative Characteristics

(MCQ favorite — 9 characteristics, remember acronym-style)
1. Understandability
2. Relevance
3. Materiality
4. Reliability
5. Faithful Representation → 3 sub-characteristics: error-free, neutrality, completeness
6. Substance over Form
7. Neutrality
8. Prudence (caution in judgment; does NOT allow understatement of assets/income or
overstatement of liabilities/expenses — else not neutral)
9. Completeness

Constraints: Balance between benefit & cost; Balance among qualitative characteristics.
⚠️ MCQ Trap: "Accuracy" is NOT one of the qualitative characteristics (Relevance,
Reliability, Understandability, Faithful Representation etc. are — but not "Accuracy").
[Confirmed by ICAI's own MCQ Q2 — Accuracy is the odd one out.]

Ethical Principles for Valuer (Framework)

(a) Integrity and Fairness (b) Objectivity (c) Professional Competence and Due Care (d)
Confidentiality (e) Professional Behaviour
Valuer also expected to apply professional judgement (materiality, risk, quantity/quality of
info) and professional scepticism.
7. GIST OF ICAI VALUATION STANDARDS (Numbering — high MCQ yield)
Category Standard Title

Technical Standards VS 101 Definitions

VS 102 Valuation Bases

VS 103 Valuation Approaches and Methods

Performance Standards VS 201 Scope of Work, Analysis and Evaluation

VS 202 Reporting and Documentation

Application Standards VS 301 Business Valuation

VS 302 Intangible Assets

VS 303 Financial Instruments

8. VS 101 — Key Definitions (MCQ gold mine — definitions often tested

verbatim/close paraphrase)
Active Market: transactions occur with sufficient frequency & volume to provide
ongoing pricing info.
Asset: includes group of assets, liability, business, or business ownership interest
(reference to "asset" includes liability).
As-is-where-is basis: existing use of asset — may or may not be highest & best use.
Business Valuation: act/process of determining value of business enterprise or
ownership interest.
Comparable Companies Multiple Method (= Guideline Public Company Method):
market multiples from comparable traded on active market.
Comparable Transaction Multiple Method (= Guideline Transaction Method):
multiples from prices paid in comparable transactions.
Control Premium: amount buyer pays over current market price for controlling
interest; opposite of DLOC.
Cost approach: reflects current replacement cost of service capacity of an asset.
Discount Rate: return expected by market participant — reflects time value of money
+ risk.
DCF Method: discounts cash flows over explicit forecast period + perpetuity/terminal
value.
Fair value: price received to sell asset/paid to transfer liability in orderly transaction
between market participants at valuation date.
Forced transaction: seller under constraint, no appropriate marketing period.
Going concern value: value of enterprise expected to continue operations.
Goodwill: asset representing future economic benefits from business/assets not
separately recognised.
Highest and best use (HABU): use by market participants that maximises value.
Income approach: converts future amounts to single current discounted/capitalised
amount.
Intangible Asset: identifiable non-monetary asset without physical substance.
Integration costs: additional one-time/recurring costs incurred by acquirer post-
acquisition.
Liquidation value: amount realised on sale when actual/hypothetical termination
contemplated.
Market approach: uses prices/info from market transactions of identical/comparable
assets.
Market participants: willing buyers/sellers who are (a) independent, (b)
knowledgeable, (c) able to transact, (d) willing (motivated, not forced).
Observable inputs: developed from market data.
Unobservable inputs: no market data available — best available info used.
Orderly liquidation: realisable value after appropriate marketing efforts/reasonable
time, as-is-where-is.
Orderly transaction: assumes exposure to market before valuation date; NOT forced.
Participant specific value: value considering specific advantages/disadvantages of
owner/identified acquirer/participants.
Premise of value: conditions/circumstances of how asset is deployed.
Present value: links future cash flows/values to present amount via discount rate.
Relief from Royalty (RFR) Method: value = PV of royalty payments saved by owning
vs. licensing; used for trademarks, patents, brands.
Replacement Cost Method (= Depreciated Replacement Cost Method): cost to
recreate asset of comparable utility, adjusted for obsolescence.
Reproduction Cost Method: cost to recreate a replica, adjusted for obsolescence.
⚠️ MCQ Trap (Q5 in ICAI's own test): Key difference = Replacement →
"comparable utility" asset; Reproduction → "replica" asset. Both adjust for
obsolescence — that's NOT the differentiator.
Rule of Thumb/Benchmark Value: used as reasonableness check against other
approaches.
Subsequent Event: event after valuation date that could affect value.
Synergies: combined value/benefit of 2+ assets/entities > sum of individual
standalone values.
Terminal value: PV at end of explicit forecast period of all subsequent cash flows (to
perpetuity if indefinite life).
 Transaction costs: costs directly attributable & essential to disposal/transfer; no
adjustment for taxes payable as direct result of transaction.
Weight/Weightage: importance given to value from a particular method/approach.
With and Without Method (WWM): intangible value = PV of difference between
cash flows (a) with all assets incl. intangible, and (b) with all assets except intangible.

9. VS 102 — Valuation Bases & Premise of Value

Valuation Bases (3 types)
1. Fair Value — Ind AS 113 definition; IVSB considers it broadly consistent with "Market
Value."
2. Participant Specific Value — considers synergies/advantages specific to
owner/identified acquirer (NOT available to market participants generally).
3. Liquidation Value — orderly liquidation OR forced transaction (valuer must disclose
which is assumed).

Key distinction: Fair Value = synergies available to market participants generally;

Participant Specific Value = synergies specific to the concerned participant(s) only.

Premise of Value (5 common premises)

Grouped under two bases:
Under Fair Value/Participant Specific Value base:
Highest and Best Use (HABU) — physical, legal, financial feasibility
Going Concern Value
As-is-where-is basis

Under Liquidation Value base:

Orderly Liquidation
Forced Transaction

HABU three feasibility tests: Physical, Legal, Financial.

Exchange Ratio / Swap Ratio Disclosure (BSE Circular 29 May 2017 / NSE Circular 1
June 2017)
Requires disclosure of value per share + weight for Income/Market/Cost approaches
for both merging entities.
If any approach not used → valuer must give detailed reasons.

10. VS 103 — Valuation Approaches

Three Approaches
 Approach Basis Common Methods

Income PV of expected cash flows/income; most DCF, Capitalization of Earnings

appropriate for going concern

Market Market multiples/transactions of CCM (Comparable Companies), CTM

(Relative) comparable assets (Comparable Transactions), Market
Price Method

Cost Net assets/replacement cost, adjusted Summation of piecemeal asset values

for obsolescence less liabilities

Selection Factors (4 key factors — recurring MCQ)

(a) Nature of asset to be valued (b) Availability/reliability of inputs (c)
Strengths/weaknesses of each approach & method (d) Approach/method considered by
market participants

Purpose-driven approach selection (MCQ scenarios)

Liquidation purpose → Cost Approach (Realizable Value of Net Assets), NOT Income
Approach (going concern questionable)
Start-up valuation → Market Approach often not appropriate (lack of comparables);
Income Approach possible if reliable cash flow/growth data available
Statutory requirement → may prescribe specific approach

Situation → Approach Table (memorize)

Situation Approach

Knowledge-based companies Income/Market

Manufacturing companies Income/Market/Cost

Brand-driven companies Income/Market

Investment/Property companies Cost

Company going for liquidation Cost

Single vs Multiple Approach

No single approach best-suited for every situation.
Multiple approaches recommended when insufficient factual inputs for single
method.
 If multiple approaches used → assign weightages.
Best practice: values under different approaches should not be at significant variance
— if so, revisit analysis (not just reweight).

11. Adjustments in Valuation

(a) Discount for Lack of Marketability (DLOM)
Premise: illiquid asset commands lower value than liquid asset.
3 ways to factor illiquidity:
1. PV of expected future transaction costs — reduce from asset value
2. Adjust required rate of return (higher return for illiquid asset)
3. Value loss of liquidity as an option
DLOM models:
Restricted stock/private placement studies
IPO studies
Synthetic bid-ask spreads
Protective put method — David Chaffe
Average strike put option — John Finnerty
Factors: size/nature, time & cost of marketing, transferability restrictions, history of
transactions, exit rights, access to information.

(b) Control Premium & DLOC (Discount for Lack of Control)

Control Premium = amount paid by acquirer for benefits of controlling assets/cash
flows.
Applied when investor acquires operational/financial decision-making control.
DLOC applied in converse situation — deriving minority value from control value.
Factors: unmonetized business opportunities, management quality, integration
ability, competitive landscape.

(c) Synergy
Three types (memorize — reliability ranking):
1. Revenue synergies — least predictable/reliable (subject to market forces)
2. Cost synergies — most reliable (under combined entity's control); recurring
3. Financial synergies — tax strategies, debt capacity, imperfectly correlated cash flows

12. Special Consideration — Liquidation

Assets valued as if sold individually, NOT going concern basis.
 Company in liquidation but business continuing → liquidation consideration doesn't
apply to assets, but provision for liquidation cost still needed.
Company AND business both liquidating → liquidation basis + cost of liquidation
provision.
Tax consequences (capital gains, withdrawal of tax reliefs) must be considered.

13. Performance Standards (VS 201, VS 202)

VS 201 — Pre-engagement Considerations
Independence and Impartiality
Professional Competence and Expertise
Understanding Purpose and Objective
Scope of Work
Agreement on Terms
Access to Information
Legal/Regulatory Compliance
Communication and Reporting

Engagement Letter — Minimum Contents (high MCQ relevance)

Client details; other users of report
Valuer details
Purpose of valuation
Subject matter identification
Valuation date
Basis and premise of valuation
Responsibilities (client + valuer)
Confidentiality obligations
Scope/limitations
Fees
Third-party expert details (if any)

Data Collection Categories (4)

(a) Non-financial information (b) Ownership information (c) Financial information (d)
General information

Subsequent Events
Generally, valuer considers only circumstances up to valuation date.
Post-valuation-date events MAY be relevant depending on basis/premise/purpose —
professional judgement applies; must be explicitly disclosed if considered.
 4 conditions when subsequent events should be considered (Step 8, note this is a
distinct list from Ind AS 10): (a) Reasonably foreseeable as of valuation date (b)
Relevant to valuation with adjustments made for differences (c) Used only to
CONFIRM value already arrived at (not to arrive at valuation) (d) May be evidence of
value rather than something that affects value

Ind AS 10 Classification of Subsequent Events (distinct from above)

Adjusting events — provide evidence of conditions existing at reporting period end
(e.g., customer bankruptcy after period end)
Non-adjusting events — indicative of conditions arising after reporting period (e.g.,
decline in investment market value)

14. VS 202 — Valuation Reporting

Scope: documentation for valuation report preparation. NOT applicable to reports
specifically required under statute/law/court order — but applies to opinions/review
reports of other valuers.

Two Types of Reports

1. Summary Report — all procedures performed, but slimmed down; critical info +
assumptions retained.
2. Detailed Report

Minimum Content of Valuation Report (memorize — frequently tested as a list)

1. Background information of asset being valued
2. Purpose of valuation and appointing authority
3. Bases of value
4. Premise of value
5. Identity of valuer + other experts involved
6. Disclosure of valuer's interest/conflict, if any
7. Date of appointment, valuation date, date of report
8. Inspections/investigations undertaken
9. Nature and sources of information used/relied upon
10. Procedures adopted + valuation standards followed
11. Valuation methodology used
12. Restrictions on use of report, if any
13. Major factors considered
14. Conclusion
15. Caveats, limitations, disclaimers (NOT to limit valuer's responsibility)
16. Signature (name, entity, registration number, date, place)
Restrictions on Report Use — Illustrative
Report under one statute cannot be used under another
FEMA/Income tax have own guidelines
Participant specific value ≠ fair value
NCLT report ≠ usable in criminal proceedings
Liquidation basis report ≠ going concern report
Report validity — e.g., report prepared Feb–April should be replaced once annual
audited accounts available

15. Application Standards

VS 301 — Business Valuation
Scope exceptions: (a) where standard requirement inconsistent with prescribed
requirements; (b) valuation procedures specified by law/regulation/court order.
3 Types of Business Values (formulas — HIGH MCQ priority):

Value Type Formula

Enterprise Common equity (at equity value) + Debt (market value) + Minority Interest (market
Value value) − Investments (ST & LT) − Associate co. (market value) + Preference capital
(book value) − Cash & equivalents

= FCFF / WACC

Business Value attributable to ALL shareholders (equity + redeemable/cumulative

Value preference etc.)

Equity = FCFE / Cost of Equity

Value

= (PAT + Dep&Amort − Capex − Increase in NCWC + Change in Debt) / Cost of

Equity

Key distinction: Equity Value = price/share × no. of shares; Enterprise Value = Equity Value
− Cash − Investments + Debt.
When valuation required: Strategic (pre-transaction, swap ratios, fairness opinions),
Restructuring, Regulatory/Tax (FEMA, Tax), Financial Reporting (PPA, impairment).
Issues in Business Valuation: forecasting issues, method selection, comparable multiples
difficulty, thinly traded/dormant scrips, loss-making companies, start-ups, e-commerce
valuation, illiquidity discount & control premium, transaction structure,
procedural/regulatory issues, management representations.
Income Approach — DCF Methodology (3 key steps)
1. Forecasting Cash Flow
2. Discounting Factor derivation
3. Terminal Value Consideration

Forecast period factors: FCFF vs FCFE (for whom); real vs nominal; currency; length
(typically 5–10 years; longer for infra/cyclical).
Ind AS 36 guidance on cash flow projections (Value in Use):
Base on reasonable, supportable assumptions; greater weight to external evidence
Exclude cash flows from future restructurings (not yet committed) or asset
enhancement
Budget/forecast period: max 5 years unless justified
Growth rate beyond budget period: steady/declining unless increasing rate justified;
shall not exceed long-term average growth rate of product/industry/country unless
justified

Discount Rate (WACC formula — MUST KNOW)

WACC = Kd × D/(D+E) + Ke × E/(D+E)

Kd (post-tax cost of debt) = (Rf + DM) × (1 − t)

Ke (cost of equity, CAPM) = Rf + (β × ERP) + Alpha

Where: Rf = risk-free rate; DM = debt margin; t = tax rate; β = beta; ERP = equity market risk
premium; Alpha = company-specific risk premium; D = Debt; E = Equity.
Equity Value → discount using Cost of Equity (COE)
Enterprise Value → discount using WACC

Terminal Value — Gordon Growth Model (MUST KNOW FORMULA)

PV (Terminal Value) = E₀(1+g) / (k−g)

Where E₀ = cash flow in last year of explicit forecast; k = discount rate; g = long-term growth
rate.
3 Terminal Value computation methods:
1. Gordon Growth/Constant Growth Model — for mature/stable growth businesses
2. Two-Stage/Multi-period Growth Model — technically sound, needs post-discrete-
period growth assumptions
3. Exit Multiple — market-based multiple applied to normalized cash flows
Capitalization of Earnings Method

Vf = FCFF₁ / (WACC − gf)

Single-stage, stable growth model.

Rarely used for public companies/large private companies/M&A/financial reporting
— mainly for annuity-based/stable private companies.

Market Approach — Methods

1. Market Price Method — traded price over reasonable period (active market); use
weighted/volume-weighted average to reduce volatility impact.
2. Comparable Companies Multiple (CCM) Method — steps: identify comparables →
compute multiples → adjust multiples → apply to subject.
3. Comparable Transaction Multiple (CTM) Method — variant using transaction
multiples instead of trading multiples.

Common Multiples (know merits/demerits)

Multiple Key Point

EV/Revenue Usable even with negative EBITDA

EV/EBITDA Closest P&L proxy for operating cash flow; cannot use if negative EBITDA;
eliminates leverage impact; unaffected by depreciation policy differences vs P/E

EV/EBIT —

P/E Simple, widely available; cannot use if negative earnings; affected by accounting
policy differences; consider growth phase, liquidity, comparable period

P/B (Price to Can evaluate firms with negative earnings; cannot use if book value negative;
Book) affected by accounting policies

Industry-specific multiples: EV/operating beds (hospitals), EV/MW (power), EV/Room

(hotels), EV/Tower (telecom towers), EV/Tonne (cement), EV/Oil Barrel (oil).

Cost Approach
Value = Value of underlying assets − liabilities (per balance sheet, adjusted).
Value of Equity Capital = (Value of Assets − Value of Liabilities) / No. of Equity Shares

Most applicable for:

Loss-making company
 Real estate/land-stage company
Company with inadequate return on capital
Company facing potential liquidation

Least applicable for:

Service industry company
Non-capital-intensive business
Company with substantial intangible assets
High-growth company

9 Steps in Business Valuation Process (memorize sequence)

1. Engagement Letter and terms of engagement
2. Define valuation base and premise of value
3. Analyse business — accounting analysis + due diligence
4. Collect financial & non-financial info (historical + projected)
5. Identify adjustments to financial/non-financial info
6. Consider and apply appropriate valuation approaches/methods
7. Arrive at Value or Range of Values
8. Identify Subsequent Events
9. Draft and Finalise Valuation Report

Accounting Analysis — 6 Key Aspects

1. Evaluation of accounting values
2. Flexibility (in choosing policies/estimates)
3. Accounting discretion (used to reflect true position or hide it)
4. Understandability of financial statements
5. Identifying questionable accounting policies/transactions
6. Removal of distortions

Due Diligence — Types

Commercial/Operational
Financial (post price agreement — assess benefits/costs)
Tax
Information system
Legal

Hidden liabilities examples: unmatured show-cause notices, letters of comfort, pending

tax assessments, future lease liabilities, environmental/third-party claims, warranty
liabilities, labour claims.
Overvalued assets examples: uncollectible receivables, valueless intangibles,
unreconciled group balances, litigated assets, obsolete stock/P&M, capitalised revenue
expenditure.

VS 302 — Intangible Assets

Definition (Ind AS 38 basis): identifiable non-monetary asset without physical substance.
Identifiability — 2 criteria (EITHER must be met):
1. Separability criterion — capable of being
separated/sold/transferred/licensed/rented/exchanged (individually or with related
contract/asset/liability)
2. Contractual-legal criterion — arises from contractual or legal rights (regardless of
transferability/separability)

⚠️ Non-contractual customer relationships (not separable), customer service capability,

specially trained employees → generally NOT identifiable as separate intangibles.
Control: power to obtain future economic benefits + restrict others' access. Usually stems
from enforceable legal rights, but legal enforceability NOT a necessary condition.
Categories of Intangible Assets (function-based):
1. Contract-based (non-compete, licenses, permits, royalty agreements)
2. Customer-based (customer relationships — contractual/non-contractual, backlogs,
customer lists)
3. Marketing-based (trademarks, trade names, service marks, copyrights, domain
names)
4. Technology-related (patented/unpatented tech, software, databases, trade secrets,
know-how)
5. Artistic-related (royalties from creative works)

Note: Some intangibles (e.g., brands) may belong to more than one category.

VS 303 — Financial Instruments

Definition: contract giving rise to financial asset of one entity + financial liability/equity
instrument of another. Examples: equity instruments, derivatives, debt instruments, fixed
income/structured products, compound instruments.
Used for: transactional pricing, financial reporting, business combinations, share-based
payments, off-market transactions, risk management, tax allocations, dispute resolution,
PPA, liquidation.
Present Value technique — 5 elements captured (from market participant perspective):
(a) Estimate of future cash flows (b) Expectations of variations in amount/timing
(uncertainty) (c) Time value of money (risk-free rate) (d) Risk premium (price for bearing
uncertainty) (e) Other factors market participants would consider

Credit Risk Adjustment Factors (6):

1. Counterparty risk (financial strength of issuer/guarantors)
2. Capital leveraging (borrowing level affects volatility/credit risk)
3. Security hierarchy (lower hierarchy = higher credit risk)
4. Collateral and default protection
5. History of default
6. Offsetting (derivative + underlying held by same counterparty reduces credit risk)

Note: Valuation typically on controlling & marketable basis — adjustments needed for
minority/non-marketable instruments (higher liquidity & control = lower discount).
Control Environment: relevant especially when valuation based on unobservable inputs
(often prepared by the entity itself) — valuer must assess adequacy & independence of
control environment before relying on internally performed valuation.

Quick-Revision Formula Sheet

Item Formula

WACC Kd×D/(D+E) + Ke×E/(D+E)

Kd (post-tax) (Rf + DM) × (1−t)

Ke (CAPM) Rf + (β×ERP) + Alpha

Enterprise Value FCFF / WACC

Equity Value FCFE / Cost of Equity

Terminal Value (Gordon Growth) E₀(1+g)/(k−g)

Capitalization of Earnings FCFF₁/(WACC−gf)

Value of Equity (Cost Approach) (Value of Assets − Value of Liabilities)/No. of Equity Shares

Value of Equity (Liquidation) Liquidation value of assets − Outstanding debt

Likely MCQ Traps — Summary

1. "Accuracy" is NOT a qualitative characteristic of a valuation report
(Understandability, Relevance, Materiality, Reliability, Faithful Representation,
 Substance over Form, Neutrality, Prudence, Completeness ARE).
2. Premise of value ≠ Valuation base. Base = Fair Value/Participant Specific
Value/Liquidation Value (3). Premise = HABU/Going Concern/As-is-where-is/Orderly
Liquidation/Forced Transaction (5).
3. Replacement Cost Method → "comparable utility" asset; Reproduction Cost Method →
"replica." Both adjust for obsolescence (that's NOT the distinguishing factor).
4. Control Premium is the OPPOSITE of DLOC (Discount for Lack of Control).
5. MEEM (Multi-period Excess Earnings Method) valuation steps include: analyse
projections/assumptions, reduce contributory asset charges, apply tax amortisation
benefit — but does NOT involve "apply volatility adjustment" (volatility adjustment
relates to option pricing methods like Black-Scholes for ESOPs, not MEEM).
6. VS 202 is NOT applicable to reports required under statute/law/court order, BUT
DOES apply to opinions/review reports of other valuers.
7. Revenue synergies = least reliable/predictable; Cost synergies = most reliable.
8. No adjustment for taxes payable as a direct result of the transaction, while computing
transaction costs (for DLOM purposes).