Short Definition (relative valuation, trading multiple, market-based valuation)
A comparison between two financial measures used to determine the value of a target company.
For Example: 1.0x times the revenue of a target company results in the expected value of the target company in the market place.
Long Definition
Multiple in financial terminology is a metric used in valuation of companies. The most commonly used multiples are: P/E (Price earnings ratio), EV/EBITDA (Enterprise value to Earnings before Interest, Taxes, Depreciation, and Amortization).
In some industries, sector-specific multiples are also used, such as EV/capacity, EV/output.
Relative valuation is a generic term that refers to the notion of comparing the price of an asset to the market value of similar assets. In the field of securities investment, the idea has led to important practical tools, which could presumably spot pricing anomalies. These tools have subsequently become instrumental in enabling analysts and investors to make vital decisions on asset allocation.
In equities, the concept separates into two areas—one pertaining to individual equities and the other to indices.
Individual equities
The most common methodology for individual equities is based on comparing certain financial ratios or multiples, such as the price to book value, price to earnings, EV/EBITDA, etc., of the equity in question to those of its peers. This type of approach, which is popular as a strategic tool in the financial industry, is mainly statistical and based on historical data.
Equity indexes
For an equity index the above fails mainly because it is difficult to group indices into peer groups. Consequently, relative valuation here is generally carried out by comparing a national or industry stock index’s performance to the economic and market fundamentals of the related industry or country.
Those fundamentals may include GDP growth, interest rate and inflation forecasts, as well as earnings growth, among others. This style of comparison is popular among practising economists in their attempt to rationalise the connections between the equity markets and the economy.
National equity index are not fully relevant in this respect due to the proportion of multinational companies listed in most national stock markets.
Market-based valuation is a form of stock valuation that refers to market indicators, also called "extrinsic" criteria (i.e., not related to economic fundamentals and account data, which are "intrinsic" criteria).
Technical analysis is the most characteristic market-based method, although it focuses more on timing than pricing.
Also, rough market comparison tools such as the PE ratio and the PEG ratio are used.
More sophisticated forms of analysis (fundamental analysis, quantitative analysis and behavioral analysis) use also some market criteria, such as
- the risk premium,
- the beta coefficient,
Those criteria might be "tilted" in some valuation models in order to anticipate their possible variation in the next future or to adapt them to their historical statistical range or mean
See also
See Related Analysis
See Related Resources
Source: http://en.wikipedia.org/wiki/Multiple_finance
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