Expert Speak Details


Deepa Dalal, Partner
Dipesh Jain, Director, Deloitte India


In today's world, it may be apt to mention that "value" lies in the eyes of the beholder. Sporadic spike in prices of stocks and securities as well as sudden plunges in valuations, including one followed by the other or vice versa, is not something unheard of. The below indicative illustration is the story of various companies, across globe, especially for start-ups.


Girl in a jacket


Valuation, especially of start-ups and of companies with negative earnings, is a highly complex exercise. Start-ups are new ideas which may or may not work. They generally have little or no revenues and huge operating losses, trying to establish the idea or sell it.

Traditional financial avenues such as banks, NBFCs are generally not forthcoming for such start-ups as these companies fail to fall within the banks' and financial institutions' prescribed norms of lending. Accordingly, almost all of them are dependent upon venture or private capital to start with. As the idea grows, venture capital and private equity finances come in. It is likely that many of the standard techniques that are used to estimate cash flows, growth rates, and discount rates tend to not work for such start-ups or yield unrealistic numbers.

The story is similar in India. In the last few years, the Indian start-up space has seen young companies commanding valuations which have catapulted them into the unicorn club. This subjective nature of valuations is not only limited to young start-ups but also plays out over their entire life cycle as they grow.

Off late, there is much brouhaha surrounding 'Angel-Tax' in India. Tax authorities have been issuing notices to start-ups as well as angel investors - a category of investors - on account of shares issued at high premium.

The valuation of a start-up is usually based on a commercial negotiation between the company and the investor, and is a function of the company's projected earnings at that point in time. However, since start-ups operate in a highly uncertain environment, many companies are not always able to perform per their financial projection. Equally, some companies exceed the projection by a long mile if they are doing well. While there are certain clarifications and relaxations prescribed by the authorities, the concerns faced by such companies and/or its investors are not completely eliminated.


Some recent phenomena - Judicial precedents challenging valuations in court of law

There have been number of judgements in the past where the judiciary, at various levels, has examined the questions raised on valuations. The apex court in the past has cited that valuation is a question of fact and the court is normally reluctant to interfere with fact finding.[1]. Until a few years back, regulatory authorities rarely questioned the valuation once the appropriate authority certified the same. However, in recent times it is being seen that valuations are being challenged at various appellate forums, on several grounds. Some of the recent interesting excerpts dealing with this aspect are touched upon below.


Projections for DCF valuation should be justified by the management

The Bangalore Tribunal in its judgement in case of Innoviti Payments Solutions Pvt Ltd[2] held that the Assessing Officer can reject the valuation if the assessee cannot conclusively establish that the future projection or estimation provided to a chartered accountant for calculation of fair market value (FMV) using DCF method, is arrived on a scientific basis. The Tribunal further said that the assessee has the special knowledge and is privy to facts of company and only the assessee has opted the method of valuation. Hence, the assessee should justify the correctness of the projections, discounting factor and terminal value etc. with the help of empirical data, industry norm, scientific data, scientific method, scientific study, and applicable guidelines regarding DCF method of valuation.

The Institute of Chartered Accountants of India (ICAI) had set up a research committee to provide guidance on contemporary issues present in share valuation. The research committee in its report named 'Technical Guide on Share Valuation', has mentioned that the DCF value is as good as the assumptions used in developing cash flow projections. It has to be seen and ensured that such projection is estimated with reasonable certainty; only then can the DCF method work. The projections should reflect the best estimates of the management and take into account various macro and micro economic factors affecting the business such as nature of company's business; caliber of managerial personnel; prospects of expansion; competition; government policy; prevailing political climate. The report also recognised that the method of valuation of shares would vary, depending on the purpose for which it is to be used.


Valuations of convertible instruments

There are different valuation norms prescribed for "equity shares" and for other "convertible instruments" such as compulsorily convertible preference shares (CCPS).

The Bangalore Tribunal in its judgement, in the case of 2M Power Health Management Services Pvt Ltd[3], held that, based on the terms of issuance of CCPS at a premium, the assessee is required to ascertain whether the receipt of share premium is for

(a) the converted "equity shares" to be issued at a later point in time; or

(b) for preference shares which are issued now.

Given that different valuation rules apply qua equity shares versus CCPS as discussed above, this point of valuation becomes pivotal. In case where DCF method is to be adopted, than the assessee has to establish that the projections given by the management to the chartered accountant for his certificate, are on a scientific basis.

The above clearly highlights the importance of justification of the valuation methodologies and the weightage given to the same by appellate authorities.


Issue/transfer of instruments – What all do you comply with?

With the introduction and subsequent adoption of Ind AS by many Indian companies, the emphasis on valuation has further increased. Recognising the need to be consistent, uniform and transparent valuation policies and harmonise diverse practices in use in India, the Council of the ICAI has issued ICAI Valuation Standards 2018 the first of its kind.


Valuation under Securities and Exchange Board of India (SEBI)

Where listed entities are involved, the SEBI prescribed valuation norms are required to be adhered to. For example, SEBI Takeover Code prescribes certain valuation norms in case of trigger of open offers. Block Trade circular prescribes certain range within which the transaction can be carried out between parties.


Valuation under the Income-tax Act (ITA)

There are various sections under the ITA (read with Income-tax Rules) requiring assessees to undertake valuation, typically, for the purpose of determining the taxable attributes.

Rule 3 of the Income-tax Rules provides for valuation of perquisites, including for ESOPs, for the purpose of computation of income under the head salaries. Rules 11, 11UA and 11UAA provide for valuation of gifts/monies received by a company on applicability of sections 50CA, 56(2)(viib) and 56(2)(x) of the ITA, as the case may be. The same is summarized in the below table.


Income Tax Act/Rules


Valuation norms

Section 50 CA

Where the consideration for sale of share of certain companies, is less than the fair market value (FMV), then the FMV so determined is deemed to be the full value of consideration and capital gains tax apply accordingly

It is pertinent to mention that the FMV in different scenarios is defined to mean differently in the Income-tax Act/Rules. These include, adjusted net asset value in some cases, discounted cash flow method in other cases, market price in some instances, while stamp duty ratable value in case of immovable properties, and so on.


Section 56(2)(viib)

Primary issuances at higher than FMV i.e. huge securities premium is not justified, becomes taxable in the hands of the company

Section 56(2)(x)

Sum of money/property is received by any person at a price which is lower than the FMV of such property – akin to gift taxation

Transfer Pricing - Per section 92F of the ITA, arm's length price (ALP) means a price which is applied or proposed to be applied in a transaction between persons other than associated enterprises, in uncontrolled conditions. Computation of ALP is subjective and involves making lots of adjustments before arriving at a final price.

Per Rule 10C of the Income-tax Rules, the most appropriate method shall be the method which is best suited to the facts and circumstances of each particular international transaction and which provides the most reliable measure of arm's length price in relation to the international transaction. The methods prescribed for determination of ALP are (i) Comparable Uncontrolled Price Method; (ii) Resale Price Method; (iii) Cost Plus Method; (iv) Profit Split Method; (v) Transactional Net Margin Method.


Valuation under Companies Act

Per Section 247 of the Companies Act, 2013, valuations are required to be done in accordance with Valuation Standards issued by ICAI. Further, in case of preferential allotment, the price of such shares should be minimum fair market value as determined by a registered valuer which typically is based on internationally determined pricing methodology.


Valuation under Foreign Exchange Management Act (FEMA)

Per the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2017, valuations are required to be done using internationally accepted principles.

Per FEMA regulations, price of shares issued by person resident in India, to person resident outside India, under the Foreign Direct Investment Policy, should not be less than the FMV of such shares. Also, price of shares issued by person resident outside India, to person resident in India, should not be more than the FMV, i.e., there is a cap for outflow of funds out of country and a floor for inflow of funds into India.


Interplay between valuations under ITA, Companies Act, and FEMA

It is interesting to note the implications, in different scenarios, under the different acts qua the valuation aspect. The below illustration tries to give a flavor of the same:


Potential implications under:

Transaction Price 90

FMV 100

Transaction Price 100

FMV 100

Transaction Price 110

FMV 100


Implications under section 56(2)(x)


Implications under section 56(2)(viib)

FEMA - (R to NR)




FEMA - (NR to R)




Companies Act – Preferential Offer




Per the above illustration, it is evident that transactions can take place without attracting any statutory implications only where the value adopted is exactly the fair market value. However, the deficiencies and technical challenges in valuation cannot at times give single fair market value. There is probably a need for valuation practice to evolve from fair market value calculation to fair market price range calculation. If the methods used are appropriate for the business, such range will be narrow. On the contrary, if the range is wide, then a deeper investigation is required to find the reason for such wide variance between fair values under different methods.

Harmonization of various laws may be required to provide ease in transacting at commercially negotiated prices between different stakeholders.



Disclaimer: Above expressed are the personal views of the author, and the publisher or the author disclaim all, and any liability and responsibility, to any person on any action taken on reliance of it.



[1] Duncan’s Industries Limited vs State if UP (2000) (SC) (1 SCC 633)

[2] Innoviti Payments Solutions (P.) Ltd vs ITO (Bangalore Tribunal) (ITA No 1278/Bang/2018): (2019) 55 CCH 070 BangTrib

[3] 2M Power Health Management Services Pvt Ltd vs ITO (Bangalore Tribunal) (ITA No 2880/Bang/2018): (2018) 54 CCH 335 BangTrib

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