multiples Flashcards
which are the 2 types of multiples? what is their relationship?
stock-market multiples and deal multiples, in absence of speculative phenomena the difference between the value under deal multiples (expected market price) and standalone value is the “acquisition premium”.
do values and multiples always coincide?
no, multiples are used to price an asset and can therefore differ from the results of a fundamental’s valuation.
why is multiples valuation so widespread?
needs few assumptions and can be done quickly, it is market oriented and super simple.
what are the most common earning multiples for EV and EQ.V? do these multiples differ across industries? why?
EV/ebitda and EQ.V/EPS. yes. due to growth potential and risk.
what are the most common Book value multiples for EV and EQ.V?
price to book for equity and EV/book value of invested capital.
what are advantages and disadvantages of revenue multiples? (EV or EQ.V/sales)
they are not affected by accounting variations and are always positive allowing for valuation of unprofitable firms. however revenues are highly volatile making these multiples imprecise.
why are industry specific multiples risky?
Since they cannot be computed for the entire market, sector-specific multiples can result in
persistent over- or under-valuation of sectors relative to the rest of the market- It is far more difficult to relate sector-specific multiples to fundamentals, which is an
essential ingredient to using multiples accurately
what are 2 principles to follow when estimating multiples?
Consistency:- Both the value (numerator) and the standardizing variable (denominator) should be about
the same claim holders in the firm
* If the numerator is an equity value (e.g., market cap), then the denominator should be an equity
value as well (e.g., book value)
* If the numerator is a firm value (e.g., enterprise value), then the denominator should be a firm
value as well (e.g., EBITDA)
2. Uniformity:- The multiple being used has to be defined uniformly across all of the firm in the peer group:
if the trailing P/E is used for one firm, it has to be used for all the others as well(1)- If either earnings or book value measures are used, the accounting rules to measure
these variables should be applied consistently across the peer group; differences in
accounting standards can result in very different earnings and book value numbers
how can you test statistical soundness of the multiple?
compute and inspect the distributional characteristics of the multiple (average and SD). look out for outliers and use medians if those are frequent. some multiples can be biased (cannot compute P/E for firms with negative E thus making the average higher than it should be), in this case make adjustments.
what are the fundamental drivers of multiples?
risk, growth potential and cashflows.
which measures do i have to define when using the P/E multiple?
which price? current vs 6-months trailing
which EPS? current, trailing or expected EPS, on which share basis? primary or partially/fully diluted?
what are some of the measures that influence P/E making its comparison and interpretation complex?
Acquisitions- Firms often grow by acquiring other firms and they do not account for acquisitions the same way- While all companies now have to use purchase accounting and record goodwill as an asset, there
is enough discretion in the process to make a material difference in reported earnings. These
differences lead to different measures of EPS and different P/E ratios
2. Management options- Using diluted EPS in estimating P/E ratios might bring the shares that are covered by
management options into the multiple, but they treat options that are deep in-the-money or only
slightly in-the-money as equivalent
3. Accounting choices
Stefano Rossi- Firms often have discretion in whether they expense or capitalize items- The expensing of a capital expense gives firms a way of shifting earnings from period to the other
what is forward P/E (PEG), what is the formula to compute it?
forward PE= P(0)/EPS(1)=(1-(g/ROE))/ke-g
normally P(0)/EPS(0)*(1+g)
how do you treat different types of share when calculating P/BV ratio? what about preferred shares?
Shares outstanding. If there are multiple classes of shares outstanding, the price per share
can be different for different classes of shares and it is not clear how the book equity
should be apportioned among shares
2. Preferred stocks. You should not include the portion of the equity that is attributable to
preferred stocks in computing the BV of equity, since the market value of equity refers only
to common equity
what are the 2 measuring issues when computing P/BV?
BVofequity- TheBVofequity, as an accounting measure gets updated infrequently. While most analysts use
the most current BV of equity, there are some who use the average over the previous year or the
BVof equity at the end of the latest financial year. Consistency demands that you use the same
measure of book equity for all firms in your sample
2. Options outstanding- Technically, you would need to compute the estimated market value of management options and
conversion options (in bonds and preferred stock) and add them to the market value of equity
before computing the P/BV ratio- If you have a small sample of comparable firms and options represent a large and variable portion
of equity value, you should do this- With larger samples and less significant option issues, you can stay with the conventional
measure of market value of equity
