Trading Multiples
I was wondering why it is BETTER for a company's multiple such as EV/EBITDA to become lower as time goes on? How does this show good value per say?
Isn't this a skewed thing to say because a company can also grow its enterprise value at the same time as growing EBITDA too no? What if they buy a non-controlling stake in something? Any thoughts would help.
Wut
Fundamentals Question, P/E Ratio (Originally Posted: 11/02/2014)
Hi guys, I have a quick question regarding trading P/E Ratio & Discounts
If a stock is trading at a lower P/E than it's peers or industry. It is trading at a discount correct?
Now, if the company has a declining business, the discount is JUSTIFIED right? Because Investors are paying less for its earnings?
It's not necessarily traded on discount, you are on the money about that. Whether a stock is trading at discount or not depends on the spread of perceived intrinsic value (not intrinsic value cuz it's not existing) and market price. P/E ratio or any other ratio/ valuation would not be meaningful when considered solely. Declining business will only be part of the answers, higher risk will also leads to a lower than average P/E. Higher risk means more uncertainty, not foreseeable decline of the business To simplify this question, think about P/E=1/(r-g) when the growth rate is consistent. When risks go up, r will go up. Hope it helps
Firm Valuation with Trading Multiples (Originally Posted: 03/29/2013)
Again, newbie trying to understand the logic behind valuation.
For multiple derived implied valuation (EV / EBITDA) * (EBITDA), what is the logic / theory behind why this equals the value of the firm?
As I'm looking going through DCF analysis, I'm looking back at trading comps and just going "duh fuk" in terms of understanding how it gets to a valuation.
The logic behind a valuation based solely upon multiplying a firm's EBITDA by their estimated EV/EBITDA ratio is that it shows what a firm might be worth relative to the market. If other firms in the same industry have been selling at 10x EBITDA, then an approximate relative valuation could be made just by multiplying the firm's EBITDA by 10. If firms like yours have been selling for 10x their EBITDA, the logic is that yours could sell at around this same multiple. This is not a measure of intrinsic value (like a DCF would be), it simply shows what a firm may sell for given the current market conditions of the firm's industry.
multiples are just quick and dirty DCFs. It's hard to do some math on a forum but bear with me.
According to the DCF framework, a stock's price should be the sum of all future earnings discounted to the present. That is:
P = E + E/(1+r) + E/(1+r)^2
you can simplify the right side by factoring the E out
P = E* [ 1 + 1/(1+r) + 1/(1+r)^2 ]
This look like a valuation multiple equation (P = E * something ). The summation term will converge into what we call the P/E ratio (divide by E on both sides)
P/E = 1 + 1/(1+r) + 1/(1+r)^2 ....
obviously I made some unrealistic assumptions like constant earnings but you'll get the same result when you consider the extra details...
..
This is what I was looking for, thank you!
Another way to think of it that P/E ratios are the price to buy the earnings of a company. When you buy shares of a company, you are buying a claim on future earnings stream
so a high P/E ratio means it is expensive to buy the ownership over the future earnings. This is possibly because the earnings are stable, or they are expected to grow. Vice versa for cheap P/E ratios.
If that's still confusing - imagine you are at the grocery store buying oranges. There are 2 crates:
Crate 1: $10 for 10 oranges or $1.00 / orange
Crate 2: $6 for 5 oranges or $1.20 / orange
obviously crate 2 oranges are more expensive. We could then assume that crate 2 oranges are more valuable and of better quality based on the fact it is more expensive. The converse should be true as well - higher quality oranges will be sold on the market at higher price per unit.
So a P/E ratio is just the price of buying the future claim on earnings
(you can argue that crate 1 has a bulk discount but for this analogy, crates and oranges are representing stocks and earnings, you wouldn't be able to get a discount as an investor unless you were buying someone's block trade)
This: http://people.stern.nyu.edu/adamodar/pdfiles/country/relvalFMA.pdf
Dude, it's a mathematical fucking identity. Value/EBITDA * EBITDA = Value...
I have to hope that this wasn't his question...
This is actually misleading because I could claim EV / Earnings * Earnings = EV is an identity too. But we know this isn't valid as a multiple.
The confusion was that there is a circularity as discussed above that I wasn't sure how to get out of. Damodaran's stuff helps to explain how it gets out of this circularity in regards to EMM. I guess it is just mixing and matching relative and intrinsic valuation approaches that lets us do it and that apparently makes it messy. At least this makes marginally more sense now.
My point was the phrasing of his question sucked.
Also, a mathematical identity is completely independent of the soundness of its components.
P/E as a Sole Valuation Metric? (Originally Posted: 10/24/2013)
I have seen a number of sell-side reports wherein companies (like those in the IT Industry and Capital Equipment Industry) are valued using the P/E multiple. Perhaps a target multiple is come up by looking at the historical P/E trend of the company and / or looking at players in the same industry, and other various factors.
My confusion is, how does this metric take into account what the company already has? Does it take into account the cash, debt, and fixed assets on book? Are these matters used subjectively to increase or decrease the target multiple relative to peers or am I missing something here?
Ratios like P/B and EV/EBITDA at least touch your balance sheet to some extent. P/E doesn't appear to be doing any such thing.
Any thoughts?
http://people.stern.nyu.edu/adamodar/pdfiles/execval/relvalX.pdf
http://echo360.stern.nyu.edu:8080/ess/echo/presentation/3d62d0dc-c9a6-4…
People value companies with PE ratio? (Originally Posted: 06/24/2011)
Just curious, why do people still use PE ratio to value companies when this ratio contains flaws? So, how would you use PE to determine the value of a company? Can someone sheds some lights? I need to value this bank with the information that I currently have, which is P/E, P/B and some comparables.
That's like asking why do people drive cars without power windows... because it is more accessible/cheaper/easier.
^Agreed. P/E is simple and intuitive. How much earnings am I going to get and how much am I paying for those earnings. Despite the obvious accounting issues, there is evidence that low P/E ratio stocks have outperformed comparable high P/E stocks in the long run. It is still a useful tool for a quick and dirty comparison of two companies.
As for financial institutions, your valuation should be B/S driven. Basically- figure out how much their financial assets are actually worth.
Agree with above. I love the PE ratios and EV/FCF ratios...No ratio is perfect, which is why you should look at a few of them, and certain ratios will matter more in certain industries.
For a bank, P/B is the most useful measure...
Interview Question - Higher P/E (Originally Posted: 01/31/2014)
We have 2 companies, one has 800M in equity and 200M in debt, the other company has 600M in equity and 400M in debt who has the higher P/E and why?
You haven't provided enough information to sufficiently answer the question. The key assumption you have to make is that from an operations standpoint, the two companies are the same (gross profit, tax rates, etc.). The second thing you're missing is the market price of the equity, as opposed to the book value.
Given the above, it depends on the type of company you're looking at and what the market considers the optimal leverage structure for that particular company. In general, a moderately levered company will have a lower P/E ratio than one without any leverage. Leverage in the right amounts is good and boosts earnings. That said, if you put too much leverage on a company such that it risks bankruptcy, than the P/E ratio will actually go much higher than that of no leverage at all.
Here is a handy example from Wikipedia comparing no leverage, moderate leverage, and high leverage and the effect on P/E ratios: http://upload.wikimedia.org/wikipedia/commons/5/5c/Effect_of_leverage_on_PER.png
sorry both companies are the exact same
South Sea Tulip is right.
Furthermore you only posted the financial structure of the companies with no further information, which basically means nothing. As SST points out, you need the market price and the earnings that generates the equity in order to calculate the ratio.
If this was real then they maybe tried to ask a tricky question to see whether you'd think few secs about it or directly give them the right answer ( that it is impossible to tell the ratio with that data).
Trading multiples. (Originally Posted: 03/29/2008)
I will be working for a Canadian ibank this summer in Toronto. Unfortunately, we do not get the same level of training that US/European firms provide their interns. At best, we get 2-3 days of training and the rest is supplemented by our previous finance knowledge and on the job training by the senior analysts/associates.
Would any of you happen to have any good sources to where I can get good insights on doing proper trading multiples?
Thanks.
you can try the damodaran website (google it)...and there are a couple of other wall street training websites that just slipped my mind at the moment.
investopedia? it's a bit thin but has good definitions on most things. if i remember correctly they had various 'tutorials' that took you through different things.
Thanks. I am trying to look for ways on how to do proper multiples on mining companies, however, I have not come across any resources which address the matter.
Sed ut adipisci ut quis. Consequatur aut impedit necessitatibus amet et repellendus voluptatem. Provident in voluptate autem sequi. Illum ut non est eveniet et laborum.
Nam quas consectetur dolorum in totam nobis est. Officia excepturi laudantium rerum incidunt. At quam eaque nisi repellat ex numquam maiores.
Porro optio numquam dolore sit odit. Occaecati voluptatem in nesciunt. Magni optio tenetur quas explicabo veniam vel accusantium.
See All Comments - 100% Free
WSO depends on everyone being able to pitch in when they know something. Unlock with your email and get bonus: 6 financial modeling lessons free ($199 value)
or Unlock with your social account...
Minima ipsam et animi ullam. Sunt iste vitae fugit nulla id quis a blanditiis. Iusto quis est excepturi eum reiciendis perspiciatis.