Business Valuation December 2026
Q.1: A company is evaluating three mutually exclusive projects, each with distinct cash flow patterns and differing levels of risk. The required rate of return is determined using CAPM, where the risk-free rate is 6%, and the market risk premium is 7%. The projects have the following betas and cash flows:
Year |
Project X Cash Flows (Rs.) |
Project Y Cash Flows (Rs.) |
Project Z Cash Flows (Rs.) |
0 |
-4,50,000 |
-3,50,000 |
-3,00,000 |
1 |
60,000 |
90,000 |
75,000 |
2 |
1,20,000 |
80,000 |
90,000 |
3 |
2,10,000 |
1,20,000 |
85,000 |
4 |
2,00,000 |
1,40,000 |
80,000 |
5 |
1,40,000 |
60,000 |
75,000 |
Project Betas |
1.2 |
0.8 |
1 |
For each project, (a) calculate the discount rate using CAPM, (b) determine the Net Present Value (NPV), (c) rank the projects in order of feasibility. If the company faces capital rationing and can invest Rs.6,00,000 at maximum, which project or combination should be chosen to maximize NPV without exceeding the investment ceiling?
Answer:
Introduction:
Investment decisions require a company to assess the benefits that a project will bring to the firm and compare them with the amount of money that the company has to invest in it and the risk associated with this investment. Net Present Value (NPV) is a capital-budgeting technique that is often used in practice. It is important since it takes into account the time value of money and the required rate of return adjusted for risk. In this case, the company has three mutually exclusive projects, Project X, Project Y and Project Z. Each project requires a different amount of investment and provides different cash flows. The beta of the projects is different as well, which means that the level of risk is different for each project. The required return of each project is calculated using the Capital Asset Pricing Model (CAPM). The risk-free rate is 6% and the market risk premium is 7%. As can be seen, projects with a higher beta have a higher discount rate, which means that investors require a higher return for the higher level of risk.
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Q.2 (A): Consider a target company, Alpha Ltd., which operates in an industry highly sensitive to market cycles. The following table contains smoothed historical financial metrics (average over the last 3 years) and the corresponding valuation multiples for its closest comparable:
Company |
Average Net Income (Rs. crore) |
Average EBITDA (Rs. crore) |
P/E (Avg.) |
EV/EBITD A (Avg.) |
Beta () |
P |
510 |
820 |
24 |
12.5 |
1.18 |
Q |
750 |
1,240 |
21 |
14 |
1.05 |
R |
630 |
1,190 |
29 |
13.5 |
1.31 |
Alpha Ltd. has a forecasted net income of Rs.675 crore, EBITDA of Rs.1235 crore, and an industry-average beta of 1.18. Given dynamic market conditions, analysts propose to adjust the average P/E and EV/EBITDA multiples for Alpha Ltd. based on its beta: use the average multiple if Alpha's beta equals peer average, subtract 1.5x from each multiple for every 0.1 beta above the average, or add 1.5x for every 0.1 below. Calculate Alpha's implied equity value (using both the adjusted P/E and adjusted EV/EBITDA, assuming net debt = Rs.1280 crore), then provide a weighted final equity valuation if EV/EBITDA is assigned 65% weight and P/E 35% weight. Present all steps.
Answer:
Introduction:
Alpha Ltd. is in a cyclical industry and so the valuation should be based on comparable companies taking into account the firm’s operating performance on the one hand and market risk on the other. The three given comparable companies P, Q and R give an average P/E and EV/EBITDA multiple and their beta values can be used to ascertain if the multiples need to be adjusted for the risk level of Alpha. In this case, as Alpha has a forecasted net income of Rs. 675 crore and EBITDA of Rs. 1,235 crores, and its beta is equal to the calculated peer-average beta, no risk-based adjustment is needed. Both the method of valuation can be used directly to arrive at the final value by considering the given weightages.
Q.2 (B): Delta Foods is preparing its annual financial statements and needs to report the value of its long-held production facility. The finance team debates whether to use book value or current market value for asset valuation, especially given recent sectoral downturns that have depressed real estate prices. Some directors value consistency and regulatory compliance, while others argue that current market value better reflects economic reality for investors. The board must choose an approach that not only meets compliance needs but also maintains credibility with shareholders. Critically analyze the implications of using book value versus market value for asset reporting in financial statements under both regulatory and stakeholder perspectives. Assess which approach would offer a more accurate and responsible representation of Delta Foods’ asset base, considering the market downturn.
Answer:
Introduction:
Delta Foods has to choose between reporting the book value or the market value of a long-held production facility in its financial statements. The two approaches provide different information to users of the financial reports. The book value is historical cost minus depreciation and impairment while the market value is what the company could expect to receive if the asset were sold. Given the situation in the sector where property prices are falling, the company has to consider various factors before making the decision. The choice between the two values depends upon accounting requirements, consistency, presentation to investors and the need to report a true and fair view of the business.