TABLE OF CONTENTS This chapter focuses on equity valuation using multiples. The basic conclusion is that multiples almost always have a broad dispersion, which is why valuations performed using multiples are almost always highly debatable. We agree with Damodaran (2001, page 253) who says "a biased analyst who is allowed to choose the multiple on which the valuation is based and to pick the comparable firms can essentially ensure that almost any value can be justified."
However, multiples are useful in a second stage of the valuation: after performing the valuation using another method, a comparison with the multiples of comparable firms enables us to gauge the valuation performed and identify differences between the firm valued and the firms it is compared with.
Figure 8.1 shows the valuation methods [1] most widely used by Morgan Stanley Dean Witter's analysts for valuing European companies. Surprisingly, the discounted cash flow (DCF) is in fifth place, behind multiples such as the PER, the EV/EBITDA, and the EV/EG.
Defond and Hung (2001) report that only 7% of the 34,787 earnings forecasts done by analysts about U.S. companies from 1993 through 1999 included cash flow forecasts. But the proportion of earnings forecasts that also included a cash flow forecast increased from 1% in 1993 to 15% in 1999.
[1]Weighted by the market capitalization of the industry in which it is applied.
