MULTIPLE COMPARABLE VALUATION METHOD

DEFINITION/INTRODUCTION
This is a valuation technique or method that determines the different market
values for comparable companies. Here, the assumption is that a certain ratio
is applicable and can be interpreted across different companies. This is seen to
be the oldest technique in valuation and it is a relative approach as well.it
assumes that a ratio comparing value to a firm specific variable, such as
operating margins or cash flow is the same across similar firms. Investors also
refer to it as; multiples approach, multiples analysis and valuation multiples.

STEPS IN CONDUCTING MULTIPLE COMPARABLE VALUATION OR MULTIPLES

ANALYSIS
ANALYSING THE TARGET COMPANY; here ,we need to know more about the
company in terms of ;the company’s activity, products offered to the market,
its market segment, nationality , strategic business unit ,the ownership
structure, organisational structure quality of management and many others.
This is a very crucial and important activity as it plays a great role in helping the
analyst choose comparable companies with similar company status or
situation.
IDENTIFYING COMPARABLE COMPANIES; here the analyst identify companies
or assets that can be compared with each other, taking into consideration their
similarities in relation to the fore mentioned factors is step one and others like;
size in revenue or profit, similar expenses, and expectation of growth and
profitability.
CALCULATING AND SELECTING MULTIPLES; after determining the market value
for each company, create valuation multiples through the process of
standardization. This means that each market value is to be converted into a
standardized value that is relative to a key statistics.
APPLYING MULTIPLES TO THE TARGET COMPANY; the valuation multiple is
applied to key statistics or financial data of the target company in order to
accommodate variation between the group of assets being compared.it is

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recommended that the multiples should be applied on both the historic data
and projected data of the target company.

VALUING THE TARGET COMPANY; this is simply justifying the results through
our own criterion and clearly establish the reasons for the selection of the
comparable companies and similarities currently or expected with the target
company.

MULTIPLES USED IN MULTIPLE COMPARABLE VALUATION

Multiples is a generic term for a class of different indicators that can be used to
value astock.it is simply the ratio that is calculated by dividing the market or
estimated value of an asset by a specific item on the financial statements.it
seeks to a value similar companies using the similar financial metrics like
EBITDA. The main idea is that the value of a firm can be determined based on
the value of another given that they comparable. When building a multiple, the
denominator should use a forecast of profits rather than historical profits.it
should be forward looking not backward-looking which is consistent with the
principle of valuation which states that a company’s value equals the present
value of future cash flow not past profits or sunk cost.
The main categories of valuation multiples are Enterprise value multiples and
equity multiples.
ENTERPRISE MULTIPLES; here, the most commonly used is the (EV/sales)
enterprise value per net sales ratio, EV/EBIT and EV/EBITDA.EV allows for
direct comparison of different firms, regardless of capital structure thereby
making it a better valuation model than equity multiples. Also, it is less
affected by accounting differences since the denominator is computed higher
up on the income statement.
 EV/SALES: EV/SALES = MC+D-CC/ANNUAL SALES.
Where;
MC= market capitalisation=number of shares *price per share
D= debt
CC= cash and cash equivalents

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In a more complex example, EV= MC+D+PS+MI-CC
WHERE:
PS= preferred shares
MI= minority interest
Example:
B and L Company reports sales for the year of 70 m fcfa. The company has 10m
of short term liabilities on the books and 25m of long term liabilities; it has
90m fcfa worth assets with 20% of that in cash. Lastly, the company has 5m
shares of common stock outstanding and the current price of the stock is
25fcfa per share. Calculate the; enterprise value and EV/sales.
Solution
EV = 125m+10m+25m-18m=142m
EV/SALES= 142/70 = 2.0286x
 EV/EBIT (EARNINGS BEFORE INTEREST AND TAXES). This is a ratio used to
determine if a stock is priced too high or too low in relation to similar
stocks and the market as a whole.
EXAMPLE: company A is going public an analyst needs to determine its
share price. There are five similar companies to company A that operate
in its industry, companies B,C,D,E and F. the EV/EBIT ratios for the
companies are 11;3x,8.3x,7.1x,6.8x and10.2x respectively. The average
EV/EBIT ratio would be 8.7x. A’s financial analyst would apply the 8.7x
multiple to company A’s EBIT to find its EV consequently its equity value
and share price.

 EV/EBITDA (EARNINGS BEFORE INTEREST, TAXES, DEPRECIATION and

AMORTIZATION). This ratio is commonly used as a valuation metric to
compare the relative value of different businesses. This ratio tells
investors how many times EBITDA they have to pay, when they acquire
the entire business. General for the enterprise multiples, higher ratio is
considered the lowest risk probably because it has a highest growth rate,
best management team and so on.

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 EQUITY MULTIPLES; under this category, the most commonly used are ;( P/E
ratio) price per earnings ratio, (PEG) price-to-earnings to growth ratio, price-to-
book ratio and price-to-sales ratio. Equity multiple scan be artificially impacted
by a change in capital structure even when there is no change in enterprise
value EV .however, equity multiples are more commonly used by investors
because they can be calculated easily and are readily available via most
financial websites and newspapers.
 P/E ratio= price per share/earnings per share
Earnings per share= net profit/number of shares
Example: company A’s stock price=30 FRS, EPS=2
Therefore, P/E= 30/2 =15
The P/E ratio measures a company’s market price compared to its
earnings. It shows what the market is willing to pay today for a stock
based on a company’s past or future earnings. This ratio can be
benchmark against other stocks in the same industry and it helps show
whether a stock is overvalued or undervalued.
 P/S( price to sales )= market capitalisation/sales or revenue

 P/B(price to book)also called price-equity ratio= common stock per

share(price per share)/ book value per share=common stock/book value
Therefore, book value per share = (total assets –total liabilities)/number
of shares (outstanding)
Book value is also the tangible net assets value of a company calculated
as total assets minus intangible assets (e.g. patents and goodwill) and
liabilities. Companies use this ratio to compare a firm’s market
capitalisation to its book value. P/B ratios under 1 are typically
considered solid investments. Has similar interpretations to PEG.

 PEG= (P/E)/percentage of growth rate. This is a stock’s price earnings

ratio divided by its percentage growth rate. It can either be forward PEG,
using forecasted figures or trailing PEG using historic figures. A PEG ratio
of less than 1 suggest a good investment, while a ratio over 1 suggest
less of a good deal, but these ratios don’t always say the future
prospects of a company. For example, a company likely to go bankrupt
with a low PEG ratio does not show that it is a good investment.

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 Example: considering the above P/E ratio of 15, let suppose that the
company’s EPS have been and will continue to grow at 10% per year.
Therefore, PEG= 15/10 = 1.5

EXAMPLE: a company has 100m in assets on the balance sheet and 75m
in liabilities. The book value of that company would be calculated simply as
100m-75m=25m. Considering that they are 10m shares each costing 5 FRS.
Each share will represent 25/10=2.5 book value. The P/B ratio =5/2.5=2x. This
tells us that the market price is valued at twice its book value. Or P/S =
(5*10m)/25m=2x
ADVANTAGES AND DISADVANTAGES OF MULTIPLE COMPARABLE VALUATION
METHOD

ADVANTAGES
 Multiples are important because they revolve around key statistics
related to investment decisions.
 It helps analysts to make sound judgements when they are appropriately
used because it provides valuable information about a company’s
financial status.

DISADVANTAGES
 Analysts may encounter difficulties when using the multiples analysis in
comparing companies or assets. This is because
 The company’s position for a certain time period and fails to include the
company’s growth in business. Therefore, resulting values can only be
applicable in the short run companies that may same to have identical
operations surely have different accounting policies, thereby leading to
misinterpretation.
 Multiples valuation analysis does not take into consideration the future
point in time; it only regards instead of long-term ones.
It should be noted that the simplicity in calculating multiple analysis is both an
advantage and a disadvantage; it’s advantageous in that it allows analysts to

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make quick computations to assess a company’s value while disadvantageous
in that it simplifies complex information into just a single value or series of
values.