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Relative valuation model
• Relative valuation model
– Asset valued based on market pricing of similar
assets
• Most widely adopted valuation model in
practice
– Easy to use, but also easy to misuse!
– Most investment thumb rules based on multiples
– Less time and resource intensive
– Reflects current market sentiments
Contd...
• Relative valuation technique
– Find comparable assets that are priced by market
• Comparable in terms of risk, growth and cash flow potential
• Common proxies ~ firm size, life cycle, sector / industry
– Scale market prices to a common variable to generate
standardized prices that are comparable
• Equity values for equity multiples
• Firm values for value multiples
– Adjust for differences across assets
• Accounting differences; differences in fundamentals
Standardized Values and Multiples
• Earnings multiples
– Price-earnings (current P/E, trailing P/E, forward P/E)
• Book value or replacement value multiples
– Price-to-book ratio, Tobin’s Q
• Revenue multiples
– Price-to-Sales ratio
• Sector specific multiples
– Price-to-hits ratio, Price-to-subscriptions ratio
Issues in Multiples Based Valuation
• Approximation:-
• EV = (Market Value of Equity + Market Value of
Debt) – Non-Operating Cash
• XYZ company’s management has forecasted
the EBITDA of the firm as $20m in the next
financial year. Comparable firms in the same
industry are trading at an average EV/EBITDA
ratio of 12x. The company currently has
2,50,000 shares outstanding. Calculate
valuation of firm or EV. Debt is $80M.
• Thank you