Using industry multiples to value companies: practical guide

Multipliers

When we talk about investments, company valuation plays an important role in decision making. However, the standard multipliers, such as P/E (price to profit) or P/S (price to revenue), do not always give the full picture. After all, different industries have their own specifics., and sometimes other approaches are needed to evaluate. Today we're going to take a look at some of the key industry multiples., which can help you in your investment analysis.

Types of multipliers

Multipliers are standard and specific, industry-specific. Regular metrics are more versatile, they can be found on free resources, for example, Morningstar. Industry multipliers can be found in analytical reports, some of them are presented in Bloomberg and Reuters terminals, in principle, they can be calculated by yourself. Sometimes these figures are far-fetched and mask the company's inability to reach a profitable level..

Besides, multipliers are ordinary - taking into account income for the last financial year or the last 12 Months, and forward - taking into account the forecast for income for future periods, usually the following 12 Months. Forward rates are a look into the future, therefore more adequate for valuation of shares, which is based, first of all, on expectations of future earnings. Besides, they can be used to evaluate unprofitable or low-margin enterprises. Disadvantages of forward multiples: predictions can be wrong, indicators are difficult to find in open sources.

In the technology industry, many companies are growing rapidly, and some of them can be profitable. Here is the PEG multiplier (price/earnings based on expected growth rates) can be very helpful. It takes into account the rate of profit growth, providing a more detailed view of the company's potential.

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Finance and P/BV

In the financial sector, especially in the banking sector with a large volume of assets, it is appropriate to use the P/BV multiplier (price/net value of balance sheet assets). This indicator gives an idea of ​​the value of the company's assets in relation to its market value..

Transportation and EV/EBITDA

In the transportation industry, the EV/EBITDA multiple is (business value/earnings before interest, taxes, depreciation and depreciation) can be especially helpful. It takes into account one-time factors, that can distort normal profit margins.

Oil and gas and EV/EBITDAX

For companies in the oil and gas sector, the EV/EBITDAX multiple is suitable, where EBITDA is adjusted for exploration costs. This allows you to get a more accurate picture of the profitability of the enterprise..

REITs и P/FFO

Finally, for real estate investment, such as REITs, good P/FFO multiplier. P/FO, or price to cash flows from operations, is a reliable and modern way to determine the value of a real estate investment fund (REIT). P/FFO is calculated by adding depreciation and write-downs to net income, and then subtracting the profit from the sale of real estate1​.

These industry multiples are excellent tools for valuing companies in various sectors.. However, it is important to remember, that each multiplier has its limitations and should be used in conjunction with other evaluation and analysis methods. We hope, that this review will help you improve your investment analysis.

How it can be used

Multiples can be used in investment analysis in the following ways:
  1. Company Comparison: Multipliers allow you to compare companies of different sizes in the same industry. For example, if you have two technology companies and want to know, which one represents the best investment opportunity, you can use peg multiplier. This will help you see, which company has a higher expected rate of earnings growth relative to its current value.
  2. Company valuation: Multipliers can help determine, whether the company is overvalued or undervalued. If the company's multiplier is above the average for its industry, This may indicate that, the company is overvalued. If the multiplier is below average, This may indicate that, that the company is underestimated.
  3. Analysis of industry trends: Multiples can also be used to analyze industry trends. If multipliers in the industry rise, This may indicate that, that investors expect growth in this industry.
  4. Risk assessment: Multipliers can help determine the level of risk, associated with investments in a particular company or industry. For example, companies with high levels of debt can have higher EV/EBITDA, which may indicate increased financial risk.
However, it is important to remember, that cartoonists – it is just one of the tools in an investor's arsenal and should be used in conjunction with other methods of analysis. For example, they should be used in conjunction with fundamental analysis, such as balance sheet analysis, income statement and cash flow statement.
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