How to do Employee Stock Ownership Plan (ESOP) Valuation?

An Employee Stock Ownership Plan or ESOP is a way through which an employee of a company can own its shares. Companies offer ESOP primarily for motivating and rewarding their employees. In most of the cases ESOP is given by the company and not purchased by the employee. There are different methods of ESOP valuation. However, for the sake of understanding how it works, let us focus on the below mentioned methods.

The Book Value Method

The first of the ESOP valuation methods is the Book value method. In simple terms, this is nothing but Assets minus Liabilities which is equal to the equity held by the company or the owner. This is purely based on the accounting books of the company and is hence known as the Book Value. However, under the Book value method, the assets of the company may not be reflecting the accurate valuations.

The Discounted Cash Flow Valuation Method

Since the ESOP valuation based on the overall value of the company, the discounted cash flow valuation method is one of the options available to project an accurate valuation of the company. Under this method, the current value of the liabilities is deducted from the combined current value of all the tangible assets and cash flow in order to arrive at the true value of the company's business.

Sales and Profit Multiple Valuation Method

This is another ESOP valuation method which is widely used for determining the true value of a company's business. Under this method the company uses the annual sales figure and an industry multiplier which is available in the public domain. This method is easy to understand and is quite often used to benchmark a company's business valuation.

Apart from the above mentioned methods, there are different ways of arriving at the true value of a business. These methods include Adjusted Book value Method, income capitalization valuation method, dividend capitalization method to name a few.