Question

How change in the interest rate effect the valuation of a company directly and indirectly.?

Answer 1

There is relationship between interest rates and company valuation. The changes in interest rates make changes in the value of companies and their shares. The value of a company’s share is calculated by discounting its projected future cash flows. The investor's required rate of return is used to discount the cash flows. If interest rates fall and other factors are constant, the value of the share will rise. On the other hand, if the interest rates raise the value of the shares are likely to fall.

At the time of business combinations, the purchase price of the company is expressed as a multiple of revenue expected in the future. The changes in the interest rates will affect this purchase price also. Thus, the rise in the interest rates leads to a lower valuation. Conversely, if the interest rates fall, the valuation will be higher.

Thus the change in the interest rate affects the valuation of a company directly and indirectly.