Valuation Metrics
Hi guys. I'm a freshman and have an interview at an ER place coming up soon and I'm looking to learn a bit about the pros and cons of different valuation metrics in practice. Hopefully some of you guys working in ER can help me out!
What are the pros and cons of the likes of DCF, P/E, EV/EBIT(DA) etc.
I have a feeling that DCF valuations are perhaps more useful for stable, long-term companies ... am I on the right track?
Also, I am guessing multiples are good in industries where comparisons are easier to do (not sure which type though!). But I don't get what the benefits of using P/E are - it seems simplistic, yet my limited experience is that people care about it a lot!
Any advice appreciated!
I don't think you'll have any technical questions like that as a freshman. When I interviewed for my ER position my freshman year they were almost entirely only interested in behavioral and fit stuff - why ER, why I want to be an investor, how I've been teaching myself, what I do to stay up to date on the markets, etc. I think you'll be fine if you just brush up on the markets, debt ceiling shit, direction of the economy, etc.
Read Chapter 3 of this link if you want a quick overview of valuation methods - http://pages.stern.nyu.edu/~iag/workshops/2005-2006/IAGv4.pdf Sector breakdown - http://wallstreetplayboys.com/basic-guide-to-valuation-and-metrics-by-s…
FWIW, understanding a company and being able to make a buy/sell recommendation comes down to a lot more than just valuation metrics. I'd be careful of making an ass outta myself to an interviewer by talking about valuation metrics, but not being able to talk about the rest of the picture.
StryfeDSP's response is on point.
To answer your DCF vs. Comps question more directly though, it is less about one being better for a certain industry or company. It boils down to a DCF being an intrinsic valuation (theoretically unaffected by market perceptions), whereas comps is a relative valuation (affected by market's perception).
Lets say the market was overvaluing the entire tech industry by 10%. You ran valuations on Company A, and lets say it was trading in line with the market. Your intrinsic valuation (DCF) told you that Company A was worth $100. Your relative valuation (EV/EBITDA, EV/Revenue, P/E, etc.) would tell you that Company A was worth $110. The company is still overvalued on an intrinsic level, but not compared to the market. When the market corrects itself (assuming it does), your company would trade back to $100. That being said, just because your model tells you that something is intrinsically worth $100 doesn't mean you'll ever be able to convince the market of it or that they will ever see it that way.
Hope this helps.
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