The valuation performance of mathematically-optimised, equity-based composite multiples

Abstract

Purpose-This paper aims to examine the valuation precision of composite models in each of six key industries in South Africa. The objective is to ascertain whether equity-based composite multiples models produce more accurate equity valuations than optimal equity-based, single-factor multiples models. Design/methodology/approach-This study applied principal component regression and various mathematical optimisation methods to test the valuation precision of equity-based composite multiples models vis-à-vis equity-based, single-factor multiples models. Findings-The findings confirmed that equity-based composite multiples models consistently produced valuations that were substantially more accurate than those of single-factor multiples models for the period between 2001 and 2010. The research results indicated that composite models produced up to 67 per cent more accurate valuations than single-factor multiples models for the period between 2001 and 2010, which represents a substantial gain in valuation precision. Research implications-The evidence, therefore, suggests that equity-based composite modelling may offer substantial gains in valuation precision over single-factor multiples modelling. Practical implications-In light of the fact that analysts' reports typically contain various different multiples, it seems prudent to consider the inclusion of composite models as a more accurate alternative. Originality/value-This study adds to the existing body of knowledge on the multiples-based approach to equity valuations by presenting composite modelling as a more accurate alternative to the conventional single-factor, multiples-based modelling approach.

Price-Earnings Multiple as an Investment Assessment Tool in Analyzing Stock Market Performance of Selected Universal Banks in the Philippines

“…For example, the study of Clarke (2014) concluded that P/E multiple tend to expand when the interest rates and inflation decrease, and contracts if otherwise. Moreover, multiples that are composite equity-based are found to provide more accurate valuations compared to optimal equity-based single-factor multiples (Nel & Le Roux, 2017). Most of the studies are on selected firms in stock exchanges and appears to be in varied industries.…”