The Need for a Valuation Report

Most often, stakeholders in an investment exercise are loathe to undertaking a valuation exercise for the investment for commercial reasons. But is it a wise decision? In each of my transactions in the last few months, one question is a constant: Do we need a valuation report? Could the investment not occur without a valuation report?

This posts examines the legal genesis for a valuation report for different types of investments for unlisted private companies (note: the assumption is that the company is already incorporated). The following are the typical investment structures:

1. Issue of equity shares;

2. Issue of convertibles (CCPS/CCD); and

3. Transfer of securities without increasing the subscribed capital.

Under the Companies Act, 2013, equity shares or convertibles may be issue either under section 62, which deals with rights issue and preferential allotment, or via a private placement under section 42.

Where a rights issue is concerned under section 62(1)(a), that is issue of shares to existing shareholders in the existing proportion of their holding, there is no requirement for a valuation report. An interesting point is that where the shareholders renounce their right, the Board has the right to dispose off the shares in a manner which is “not disadvantageous to the company or its shareholders”. It would not be surprising therefore to learn some companies adopting this route to circumvent the provisions of section 62(1)(c) which deals with preferential allotment which requires a valuation report.

Under section 62(1)(c), where the company proposed to increase its subscribed capital through the issue of further shares on a preferential basis whether to existing or new shareholders, a valuation report is a necessary element for such issuance from a registered valuer.

Under section 42 that deals with private placement of securities, while the provision in itself makes no reference to a valuation report, rule 14 of the Companies (Prospectus and allotment of securities) Rules, 2014 requires that the explanatory statement to the notice for shareholders approval shall inter alia contain the name and address of the valuer (note that the term used is not registered valuer).

Where the investment is guided by the Foreign Exchange Management (Non-debt Instruments) Rules, 2019, a valuation report is required from a chartered accountant or a SEBI registered merchant banker or a practising cost accountant.