QUESTIONS

1. Applying relative valuation approaches is typically more challenging for very small or very large companies. Why?
2. Historical results for the financial and operating performance of listed companies are readily available. Getting reasonable numbers for forecast performance is typically more difficult, and sometimes impossible. Why not rely solely on historical numbers?
3. Consensus forecasts do not incorporate the unique insights into each company that are available from our in-house expert. Why not use our own internal estimates, rather than consensus numbers?
4. Many analysts favor the use of industry-specific multiples for relative valuation purposes. What are some notable examples, and what advantages or disadvantages might be associated with using such metrics?
5. Relative valuation approaches can be used for sum-of-the-parts analysis, but many practitioners will apply a “conglomerate discount” to the results of such analysis. Why do they do so, and what is the normal range applied?

^* The material discussed here does not necessarily represent the opinions, methods or views of Delaware Investments.

¹ Malcolm Baker and Richard Ruback, Estimating Industry Multiples (Cambridge MA: Harvard Business School, 1999).

² See James J. Valentine, Best Practices for Equity Research Analysts (New York: McGraw-Hill, 2011), p. 271.

³ By contrast, in an example of how to assess a small wine producer, the proposed universe of comparables consisted of 15 “beverage firms,” including both small and large caps, and covering specialists in beer, wine, and soft drink production. Arguably, some of these are unlikely to be very similar to the proposed target of analysis. (Aswath Damodaran, Chapter 7 in Damodaran on Valuation: Security Analysis for Investment and Corporate Finance, 2nd edition, New York: John Wiley & Sons, 2006.)

⁴ Ravi Bhushan, “Firm Characteristics and Analyst Following,” Journal of Accounting and Economics 11, nos. 2–3 (1989): 255–274.

⁵ For more insight into these issues, see Chapter 18 in Tom Copeland, Tim Koller, and Jack Murrin, Valuation: Measuring and Managing the Value of Companies, 3rd edition (New York: John Wiley & Sons, 2000).

⁶ Sanjeev Bhojraj, Charles M.C. Lee, and Derek K. Oler, “What's My Line? A Comparison of Industry Classification Schemes for Capital Market Research,” Journal of Accounting Research 41, no. 5 (2003): 745–774.

⁷ Louis K. C. Chan, Josef Lakonishok, and Bhaskaran Swaminathan, “Industry Classifications and Return Comovement,” Financial Analysts Journal 63, no. 6 (2007): 56–70.

⁸ Kate Phylaktis and Lichuan Xia, “The Changing Roles of Industry and Country Effects in the Global Equity Markets,” European Journal of Finance 12, no. 8 (2006): 627–648.

⁹ Damodaran, Damodaran on Valuation: Security Analysis for Investment and Corporate Finance, p. 244.

¹⁰ Stanley B. Block, “A Study of Financial Analysts: Practice and Theory,” Financial Analysts Journal 55, no. 4 (1999): 86–95.

¹¹ Jing Liu, Doron Nissim, and Jacob Thomas, “Equity Valuation Using Multiples,” Journal of Accounting Research 40, no. 1 (2002): 135–172.

¹² Jing Liu, Doron Nissim, and Jacob Thomas, “Is Cash Flow King in Valuations?” Financial Analysts Journal 63, no. 2 (2007): 56–68.

¹³ See Chapter 15 in Jeffrey Hooke, Security Analysis on Wall Street: A Comprehensive Guide to Today's Valuation Methods, 2nd edition (Hoboken, NJ: John Wiley & Sons, 2010).

¹⁴ Damodaran, Damodaran on Valuation: Security Analysis for Investment and Corporate Finance, p. 650.

¹⁵ See Chapters 21 and 22 in Copeland, Koller, and Murrin, Valuation: Measuring and Managing the Value of Companies.

¹⁶ Damodaran, Damodaran on Valuation: Security Analysis for Investment and Corporate Finance, pp. 239–240.

¹⁷ Ibid., pp. 237–238.

¹⁸ See Chapter 21 in Hooke, Security Analysis on Wall Street: A Comprehensive Guide to Today's Valuation Methods.

¹⁹ See Chapter 22 in Hooke, Security Analysis on Wall Street: A Comprehensive Guide to Today's Valuation Methods.

²⁰ For further examples using real firms and actual figures, see Chapters 7 and 8 in Damodaran, Damodaran on Valuation: Security Analysis for Investment and Corporate Finance, and Chapter 15 in Hooke, Security Analysis on Wall Street: A Comprehensive Guide to Today's Valuation Methods.

²¹ See Chapter 18 in Hooke, Security Analysis on Wall Street: A Comprehensive Guide to Today's Valuation Methods.

²² See Timothy R. Burch and Vikram Nanda, “Divisional Diversity and the Conglomerate Discount: Evidence from Spinoffs,” Journal of Financial Economics, 70, no. 1 (2003): 69–98.

²³ Baker and Ruback, Estimating Industry Multiples.

²⁴ See Damodaran, Damodaran on Valuation: Security Analysis for Investment and Corporate Finance, pp. 143–144.