Valuation of Bonds and Shares

Valuation Of Bonds And Shares

1 Valuation Of Bonds

A bond or a debenture is a long-term debt instrument or security. It is issued by business enterprises or government agencies to raise long-term capital. A bond usually carries a fixed rate of interest. It is called as coupon payment and the interest rate is called as the coupon rate. The coupon payment can be either annually or semi-annually.

Where:

Interest 1 to n = Interests in periods 1 to n.

Unless otherwise mentioned, the maturity value of the bond is the face value.

When the required rate of return is equal to the coupon rate, the bond value equals the par value.

When the required rate of return is more than the coupon rate, the bond value would be less than its par value. The bond in this case would sell at a discount.

When the required rate of return is less than the coupon rate, the bond value would be more than its par value. The bond in this case would sell at a premium.

2 Valuation Of Shares

Factors Which Influence The Value Of Shares

The factors which influence the value of shares can be broadly classified into two groups- internal and external factors. They are stated below-

(i)                Internal factors

^v  Earning capacity of assets

^v  Return on investments

^v  Profit after tax

^v  Profit available to equity shareholders

^v  Earnings per share

^v  Dividend per share or Rate of dividend.

(ii) External Factors

^v  General economic condition of the country.

^v  Political and social environment.

^v  International economic scenario.

^v  International political environment.

METHODS OF VALUATION OF SHARES

The methods of valuation depend on the purpose for which valuation is required. Generally, there are three methods of valuation of shares:

1.Net Assets Method of Valuation of Shares

Under this method, the net value of assets of the company is divided by the number of shares to arrive at the value of each share. For the determination of net value of assets, it is necessary to estimate the worth of the assets and liabilities. The goodwill as well as non-trading assets should also be included in total assets.

Value per Share= (Net Assets-Preference Share Capital)/Number of Equity Shares

2. Yield or Market Value Method of Valuation Of Shares

The expected rate of return in investment is denoted by yield. The term "rate of return" refers to the return which a shareholder earns on his investment. Further it can be classified as

(a) Rate of earning and (b) Rate of dividend. In other words, yield may be earning yield and dividend yield.

a. Earning Yield

Value per Share = (Expected rate of earning/Normal rate of return) X Paid up value of equity share

Expected rate of earning = (Profit after tax/paid up value of equity share) X 100

b. Dividend Yield

Expected rate of dividend = (profit available for dividend/paid up equity share capital) X 100 Value per share = (Expected rate of dividend/normal rate of return) X 100

3. Earning Capacity Method Of Valuation Of Shares

Under this method, the value per share is calculated on the basis of disposable profit of the company. The disposable profit is found out by deducting reserves and taxes from net profit.

Value per share = Capitalized Value/Number of Shares