If two companies have the same financial statement why would they have different multiples? Investment Banking interview question
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(1) Different industry. Let's say you have 2 companies, one is telecom and the other is utilities. Both of these are rather capital intensive businesses with frequent reinvestment needs, but because of the AI trade over the last couple years, utilities companies have been trading at way way higher multiples. (2) Future prospects. While it is instructive, nobody values a business on how they have performed in the past; we are paying for the future cash flows they generate. Thus, while last year we may have had the same revenue, margins, etc., one business may be expected to deteriorate on those fronts in the coming years. For example, say you have a small mining company with one mine that is currently producing a lot of resources, but is not expected to do so as much in the future. The market would ascribe a lower multiple to this mining company, as opposed to a niche SaaS business that is unlikely to be replaced.
Can you provide a more specific example with numbers to illustrate how future prospects affect multiples? For instance, if two companies have the same current financials, but one has expected growth and the other is expected to decline, how would the multiples differ based on that?
It's an art, not a science. One company is expected to grow at 10% per year, the other is expected to grow at 5%. The future growth rate is not reflected in historical financials. Investors will pay a higher multiple on current EBITDA if they believe cash flows will grow faster.
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