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Strategic Performance Management and Business Valuation · Valuation in Mergers and Acquisitions

Valuation Approaches in M&A: Asset, Earnings, Market and DCF

Updated 11 October 2026 · Fact-checked

Valuation approaches in M&A estimate what a target company is worth to the buyer. The four main ones are asset-based (net asset value), earnings-based (capitalised maintainable profit), market-based (multiples such as P/E) and DCF (present value of future cash flows). Pick the method that suits the target, apply it step by step, then compare the results.

Understand Valuation Approaches in M&A

When a company buys another, it must decide the price it is willing to pay. That price starts from a valuation of the target company. No single method gives the one true value, so you use different approaches and judge which fits the case.

The asset-based approach asks what the business owns less what it owes. You restate assets and liabilities to fair value and get the net asset value (NAV). It suits asset-heavy firms, holding companies and firms being liquidated. It ignores future earning power and unrecorded goodwill.

The earnings-based approach values the business on its profit. You estimate maintainable profit after tax, then divide by a required rate of return, or multiply by a P/E multiple. It suits stable, profitable businesses. It depends heavily on the profit figure and the rate you choose.

The market-based approach uses prices of comparable listed companies or deals. You apply their multiples (P/E, EV/EBITDA, price to book) to the target's own figures. It is quick, but it needs truly comparable firms and a healthy market.

The DCF approach values the target as the present value of the free cash flows it will generate, discounted at a rate that reflects risk. It captures growth and the buyer's own plans, so it is the most used method for acquisitions. Its weakness is that small changes in growth or discount rate move the answer a lot. In an acquisition, you may also add the value of synergies, which is covered separately.

Key rules to remember

Net asset value (NAV)
NAV = Fair value of assets − Outside liabilities (including preference capital)
Value per equity share = NAV available to equity ÷ number of equity shares. Exclude fictitious assets such as preliminary expenses.
Capitalisation of maintainable earnings
Value of business = Maintainable profit after tax ÷ Capitalisation rate
Capitalisation rate is the required rate of return. It equals 1 ÷ P/E multiple.
P/E based value
Equity value = Maintainable earnings × P/E multiple
Use the P/E of comparable companies, adjusted for the target's risk and size.
Enterprise value multiple
Enterprise value = EBITDA × EV/EBITDA multiple; Equity value = Enterprise value − Net debt
Net debt = Debt − Cash and cash equivalents.
Free cash flow to firm (FCFF)
FCFF = EBIT × (1 − t) + Depreciation − Capital expenditure − Increase in working capital
Discount FCFF at the WACC to get enterprise value.
Terminal value (growing perpetuity)
TV = FCFF(n+1) ÷ (WACC − g) = FCFF(n) × (1 + g) ÷ (WACC − g)
Valid only when g is less than WACC. Discount TV by the factor of year n.
DCF equity value
Equity value = PV of FCFF + PV of terminal value − Net debt
Divide by number of shares for value per share.

How to solve Valuation Approaches in M&A questions

Use this order for any question on valuation approaches in an acquisition.

  1. 1Read the question and note which method(s) are asked, the nature of the target (asset-heavy, stable earner, growing) and what data is given.
  2. 2List the data: balance sheet items, profits, P/E, cash flows, WACC, growth rate, debt and number of shares.
  3. 3For asset-based: restate assets to fair value, remove fictitious assets, deduct all outside liabilities, and divide by shares if asked.
  4. 4For earnings-based: adjust reported profit for non-recurring items, tax effects and any required changes, then capitalise or apply P/E.
  5. 5For DCF: compute yearly FCFF, discount at WACC, add the discounted terminal value, then deduct net debt for equity value.
  6. 6Check the link between enterprise value and equity value: subtract debt, add surplus cash.
  7. 7Compare the results, comment on which method fits the target, and state the price range or recommendation.
  8. 8Show every working line and the final figure with units in ₹.

Quickest way: Pick the method, then do one clean working

When to use it: When time is short and the question names the method or gives data for only one.

  1. Match data to method: balance sheet items mean NAV, profit and P/E mean earnings, cash flow and WACC mean DCF.
  2. Write the formula first, then plug in numbers.
  3. For DCF, make a small table of year, FCFF, discount factor and present value.
  4. Compute terminal value once and discount it with the last year's factor.
  5. Subtract net debt last and divide by shares only if per-share value is asked.
  6. Add one line of judgement on suitability.

Common mistakes in Valuation Approaches in M&A

  • Taking reported profit as maintainable profit without adjustment.

    Students rush to capitalise the figure given.

    Fix: Remove one-off gains and losses, adjust for tax, and then capitalise.

  • Using book values in the asset-based method when fair values are given.

    The balance sheet looks complete.

    Fix: Replace book values with the revalued figures and drop fictitious assets.

  • Forgetting to deduct debt from DCF enterprise value.

    FCFF discounted at WACC gives a firm-level value, which students treat as the equity value.

    Fix: Always subtract net debt to reach equity value, then divide by shares.

  • Applying the terminal value formula with g equal to or above WACC.

    Careless reading of the rates.

    Fix: Check that g is below WACC. If not, the formula does not apply.

  • Not discounting the terminal value.

    The terminal value is treated as already in present terms.

    Fix: Terminal value at year n must be multiplied by the year n discount factor.

  • Giving a number with no recommendation.

    Students stop after the calculation.

    Fix: End with a line on which method suits the target and what price range the buyer should consider.

Worked examples

Example 1

Target Ltd has maintainable profit after tax of ₹90 lakh. Comparable companies trade at a P/E of 12. Target has 10 lakh equity shares. Its fair-valued assets are ₹14 crore (excluding a fictitious asset of ₹20 lakh) and outside liabilities are ₹5 crore. Find the value by (a) earnings-based method using P/E, (b) asset-based method per share.

Show the solution
  1. Earnings-based: equity value = ₹90 lakh × 12 = ₹10.80 crore.
  2. Value per share = ₹10,80,00,000 ÷ 10,00,000 = ₹108.
  3. Asset-based: the ₹14 crore already excludes the fictitious asset, so use it as is.
  4. NAV = ₹14 crore − ₹5 crore = ₹9 crore.
  5. NAV per share = ₹9,00,00,000 ÷ 10,00,000 = ₹90.
  6. Comment: the earnings value is higher by ₹18 per share, which reflects goodwill from earning power.

Answer: Earnings-based value is ₹10.80 crore (₹108 per share). Asset-based value is ₹9 crore (₹90 per share).

Example 2

Target Ltd expects FCFF of ₹10 crore in Year 1 and ₹12 crore in Year 2. After Year 2, FCFF grows at 5% a year for ever. WACC is 15%. Net debt is ₹20 crore. Discount factors at 15%: Year 1 = 0.870, Year 2 = 0.756. Find the equity value.

Show the solution
  1. PV of Year 1 FCFF = 10 × 0.870 = ₹8.70 crore.
  2. PV of Year 2 FCFF = 12 × 0.756 = ₹9.072 crore.
  3. FCFF in Year 3 = 12 × 1.05 = ₹12.60 crore.
  4. Terminal value at end of Year 2 = 12.60 ÷ (0.15 − 0.05) = ₹126 crore.
  5. PV of terminal value = 126 × 0.756 = ₹95.256 crore.
  6. Enterprise value = 8.70 + 9.072 + 95.256 = ₹113.028 crore.
  7. Equity value = 113.028 − 20 = ₹93.028 crore.

Answer: Enterprise value is about ₹113.03 crore and equity value is about ₹93.03 crore.

Exam tips

  • Read the data first. The question usually hints at the method through the figures supplied.
  • In MCQs, check whether the answer asks for enterprise value, equity value or per-share value.
  • In written answers, show the formula, the working table and a closing comment on suitability.
  • Watch the units: lakh versus crore, and per share versus total.
  • Expect to compare two methods and justify which one the buyer should rely on.

Practice questions from Valuation in Mergers and Acquisitions

Valuation Approaches in M&A in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Valuation Approaches in M&A: frequently asked questions

What is the difference between asset-based and earnings-based valuation?

Asset-based valuation values what the business owns less what it owes, at fair value. Earnings-based valuation values the profit the business can keep earning. The gap between the two is often treated as goodwill.

Which method is best for valuing a target company in a merger?

There is no single best method. DCF is widely used because it reflects future cash flows and the buyer's plans. Asset-based suits asset-heavy targets, and market multiples give a quick cross-check.

How do I get equity value from DCF?

Discount the FCFF at WACC and add the discounted terminal value to get enterprise value. Subtract net debt to get equity value. Divide by the number of shares for value per share.

Why do the methods give different values?

Each uses different inputs. One looks at assets, one at profit, one at market prices and one at future cash flows. You compare the results and choose a reasoned range.