Licenciatura

9-206-039
REV: JUNE 20, 2006

TIMOTHY A. LUEHRMAN

Corporate Valuation and Market Multiples
Valuation professionals, merger and acquisition (M&A) specialists, and market participants often
use market multiples to estimate the value of a business or parts of a business. The methodology
invokes the law of one price (LOOP), according to which identical assets must have identical prices.
Inpractice, one estimates the value of the subject company by observing prices paid for similar
companies relative to some benchmark, such as earnings before interest and taxes (EBIT). An EBIT
multiple, for example, is simply the ratio between the observed enterprise value and the
corresponding EBIT. Similarly, the ratio between enterprise value and earnings before interest, taxes,
depreciation,and amortization (EBITDA) is an EBITDA multiple, and so forth. This note summarizes
the basic steps in a valuation analysis based on market multiples and reviews some of the practical
pitfalls and limitations of the methodology.
In many ways a valuation based on market multiples is analogous to the exercise many people go
through when they buy or sell a common asset such as a house or a usedcar. The best way to price a
used car is to look at bid and ask prices for similar cars and/or actual recent transactions for similar
cars—in other words, to invoke LOOP. However, no two used cars are exactly alike—they may differ
in their mileage, engine size, comfort options, color, general condition, repair history, and so forth.
While there are many used cars for sale at any one time,there are many fewer that closely match the
make, model, year, mileage, options, color, and so on of the one to be valued. Hence, one generally
infers a range of value from, on the one hand, a small number of sales of nearly identical cars and, on
the other, a much larger number of deals for similar but not identical cars. How reliable is the
estimate of value (and how narrow the range inferred)will depend partly on the skill and diligence
of the person performing the valuation and partly on the quality and availability of pertinent data.
Valuation of businesses using multiples is sometimes called the “market approach” to contrast it
with discounted cash flow (DCF) valuation, which is sometimes called the “income approach.” A
detailed comparison of these generic methodologies is notthe purpose of this note. Both rely on
markets directly or indirectly and on LOOP. It is very common to see valuation professionals apply
both methodologies to a single company or transaction, as they often give somewhat different
indications of value.

A Three-Part Process
Market multiples are generally drawn either from stock prices for public companies or prices from
completedtransactions (e.g., a merger or acquisition) involving public or private companies. The
former give rise to trading multiples, the latter transaction multiples. In either case the analytical process
________________________________________________________________________________________________________________
Professor Timothy A. Luehrman prepared this note as the basis for class discussion.
Copyright ©2005 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685,
write Harvard Business School Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. No part of this publication may be
reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical,photocopying, recording, or otherwise—without the permission of Harvard Business School.

206-039

Corporate Valuation and Market Multiples

has three basic parts that we can label for convenience as 1) search and select, 2) adjust and compute,
and 3) apply and conclude.

Part 1: Search and Select
The first part of the process is the selection of a group of comparable companies, that...