DCF Multiples method

I don't conceptually understand the multiple method.

What does it mean to "assign a ratio such as EV/EBITDA from a comparable company to determine the terminal value". I think the wording is confusing me.

Can someone give me an example?

Lets say:
A comparable company has a EV/EBITDA ration of 8X - then what?

 

This is going to sound ridiculous, but it'll cut through your confusion with the verbiage.

Turkey is $5/pound and chicken is $7/pound - you are trying to figure out what a pound of pork is worth and you think pork is similar to chicken and turkey, so you decide it's worth $6/pound, assigning the average per-pound multiple of comparable deli meats.

EV/EBITDA is essentially just doing the same thing with a stream of cash flows.

I come from down in the valley, where mister when you're young, they bring you up to do like your daddy done
 

All these other comments give a good idea of the concept around why your using such a multiple and how it connects to the company your valuing.

If you're asking in terms of what to do when explaining or doing the DCF, after reading that excerpt you quoted from the technical guide (It confused me at first too), after obtaining the average multiple from your comparable companies that you would like to use for the terminal value of firm you are trying to value, you would multiply the final years free cash flow by that average multiple you calculated and that would be your terminal value.

 
Most Helpful

By using comparable companies, you are looking at current valuations from companies engaging in similar lines of business. The rationale behind this being, by looking at the similar companies and finding an average/median valuation metric (EV/EBITDA) between them, you would be able to use that particular metric in order to value the business you are looking at. This could be based on the current and projected market valuations (public comps), or precedent transactions in the specific industry the company is in.

Now for the DCF there are two commonly used terminal value methods, perpetuity and the exit multiple method. Specifically, for the exit multiple method, you are implying that the company would be sold at the conclusion of your projection period. Thus, by using EV/EBITDA, for example, you are using the average/median ratio from similar companies to project the companies value if sold at the end of the projection period. As a result, you would multiply that companies' 2021P EBITDA by the derived EV/EBITDA projection (from the comps) in order to arrive at an implied terminal value, which you would then discount to the present value. Finally by adding this number back to the present value of the FCF you would arrive at the implied enterprise value of the company.

 

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Be excellent to each other, and party on, dudes.

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