Market Multiples and the Valuation of Cyclical Companies

Abstract

Market multiples are more often used than studied. Equity analysts, investment bankers and other practitioners widely use market multiples to estimate the value of companies. Nevertheless, literature about multiples is not as rich as the wide use of these valuation tools would suggest. This paper, focusing on European listed companies, investigates how multiples can be used in the valuation of cyclical companies, a much less investigated research topic. We test the accuracy of multiples to understand whether their performance in valuing cyclical companies is better, worse or equal to the performance found in prior studies, where both cyclical and non cyclical companies are analyzed without distinguishing between them. We also attempt to verify whether the way in which multiples are calculated significantly affects the accuracy of estimation. Our aim is to develop a valuation approach consistent with valuation theory and helpful in everyday practice.

Private Firm Valuation in the Technology Sector: Illuminating the Interaction Between Multiple Performance and Peer Pool Setting

“…Examining the relative superiority of multiples according to the value driver employed, studies on European markets conclude earnings multiples to yield highest prediction accuracy [e. g. 6,8,9]. A similar result is found in an international setting [10].…”

“…Second, I select peers estimating a Hausman-Taylor regression [62], allowing some of the regressors to be correlated with the individual effects [63]. The instrumental variables are selected according to both, variables employed in prior research [5,6,9,14,[64][65][66][67][68] and, simply, data availability on transactions, pricing and, company information. The resulting set of 19 instrumental variables is assigned to four categories: (i) deal characteristics, (ii) transaction characteristics, (iii) market (for corporate takeovers) characteristics and, (iv) firm characteristics, with the latter being further categorized according to the three primary drivers of firm value (profitability, growth and, risk).…”

Determinants of Price Multiples for Technology Firms in Developed and Emerging Markets: Variable Selection Using Shrinkage Algorithm

“…Nonetheless, price-to-earnings multiple performed better in price forecast in comparison to all other standalone multiples as well as various combinations of value drivers. Bagna and Ramusino (2017) investigated how multiples can be used in the valuation of cyclical companies, and they evaluated the accuracy of multiples in terms of their performance to value cyclical companies. Tremolizzo (2009) investigated the use of multiples for valuing cyclical firms and reported that applying multiples leads to greater valuation error in comparison to non-cyclical firms.…”