Valuation of a business is evaluating the current worth of a company using objective measures.
The term "multiple", in business indicates a way to measure a single element of the company but with two or more metrics. For example, price/earning ration is one of the multiples
Indeed, multiples of valuation is one way to value a company's business.
Earnings Multiples Valuation In Industry
Simply put, earnings multiple is the price of the stock divided by earnings per share (EPS).
Here, the units are expressed in years - that is how may years of earning would it take to equalt the stock price. The stock price of the asset is expressed in rupees and the EPS in rupees per year.
Factors Influencing Valuation
Earnings multiple does not tell much about the comapny's assets. There are possiblilities ,in reality, that the company can equal the stock price in number of years less than the estimation by EPS.
Several factors like growth and stability of a company may influence the EPS valuation. Furthermore, the P/E ratio of the company also depends on the type and sector of the company.
The Earnings Multiples Valuation - Approach
Earnings multiple helps to provide the guide to the valuation of busniness of a company.
The multiples valuation formula, relevant earnings base multiplied by the earning multiples to arrive at the company's business valuation.
Common Ratios Used
There are two main categories of earnings multiples valuation - enterprise value multiples and equity multiples.
- Equity multiples - Examines rations between share price and an element of the the business's performance.
It includes book value, earnings, sales and similar. Equity earnings multiple contains price-to-earnings ration (P/E) and price-earnings-to-growth ratio (PEG).
Further, changes in capital structure of a company affects equity valuation multiple,
- Enterprise Value multiples (EV) - EV allows direct comparison of different businesses. Unlike equity multiples, it is not affected by change in capital structure of a company.
Comparatively, EV is better than equity value. But investors use equity valuation multiples more, because they are easy to calculate with. They are easitly available in websites and newspapers.
How Is Earnings Multiples Valuation Calculated ?
Specific steps involved in the process of earnings multiple valuation calculator includes,
Step 1: Identification of similar and comparable assets. Also, gathering their respective market values.
Step 2: Market values converted to standardized values. It is known as the "process of standardization".
This step creates valuation multiples.
Step 3: Application of valuation multiples in the asset's key statistics.
Earnings Multiples Valuation - A Multiples Analysis
Mmultiples an be categoraised into two - equity and enterprise value multiples.
The most common equity multiples is P/E ratio - or price per earnings ratio, evidently.
- P/E ratio - It is a relationship between a comapny's asset value and the earnings per share (EPS). It is the best multiples valuation method used by investors.
The P/E ratio shows the best expectations that a market has. Besides, it also determines the price per unit you have to pay out of current earnings.
An acceptable P/E ratio should range between 12 to 15. Higher the P/E ratio, more investors are willing to pay for the company.
The most common enterprise value multiples (EV) used is EV/Sales - enterprise value per net sales. They are not only comprehensive but also have more available multiples. This makes it preferable.
- EV/Sales or Revenue - Difference in accounting in the company affects EV/Sales. A good EV-to-sales value is between 1x and 3x.
Different Methods Of Earnings Multiples Valuation
Clearly, there are two methods of earnings multiples valuation.
Comparable Company Analysis
The comparable company analysis (or 'comps') method is used to for analysing public companies.
Analysts gather information on these companies that includes share prices, market capitalization, capial structure, revenues etc. Also, it is based on the premise that similar businesses contain similar risks, financial characteristics or performance drivers.
Precedent M&A Transactions
The precedent M&A transaction method is used to analyze past mergers and acquisitions of the same business.
Moreover, investors use this method as reference point for the valued business.
5 Steps Of Earnings Multiples Valuation - Summary
Firstly, determining an appropriate set of similar and comparable companies
Secondly, aggregating and standardizing financial data of the company
Thirdly, selection of suitable valuation multiples, key statistics and ratios
Fourthly, benchmarking the comparable companies
Finally, implication of the best earnings multiples valuation method
Conclusion
In conclusion, more reading and understandings on the various categories and methods listed above can help the analysts and the investors.
Subsequently, it helps the to apply the best suitable earnings multiples valuation method to value their businesses.
