The Impact of Sample Selection on the Accuracy of Relative Valuation

Jakob Rahbek Nexøe & Mads Vedsted Therkildsen

Student thesis: Master thesis


The purpose of this thesis is to address the implementation issues related to valuation multiples. From a theoretical perspective, companies with identical cash flows in terms of uncertainty, timing and size should trade at the same price. Identifying comparable firms with respect to these characteristics, enables valuation in proportion to specific value drivers. Practitioners often derive comparable firms from a sample of listed companies or a sample of precedent transactions. Transaction comparables tend to provide higher valuations than trading comparables, as they reflect a control premium or the ability of the acquirer to pay a higher price due to synergies. This thesis investigates whether the selection of comparables from a sample of precedent transactions or a sample of listed companies provides the highest valuation accuracy. We examine the empirical valuation accuracy by conducting relative valuations of a broad sample of US transactions from 2007 to 2016 based on both selection methods. Furthermore, we investigate the accuracy of a range of valuation multiples including the P/E, the P/B and the EV/EBITDA multiple. Lastly, we examine which measure of central tendency should be used in the calculation of implied multiples.
Our results indicate that the choice between listed companies and precedent transactions affects the precision of the estimated values, as we found differences in valuation accuracy for the two selection methods. Our primary analysis showed that comparable firms drawn from a sample of listed companies provide higher valuation accuracy. However, when adjusting for differences in sample sizes, precedent transactions seemed to display superior performance. On this basis, the results regarding the preferred selection method remain inconclusive.
Based on the analysis, the EV/EBITDA multiple results in the most accurate valuation estimates. The P/E multiple shows the second highest precision; whereas the P/B multiple performs the worst in terms of valuation accuracy. Furthermore, our results indicate that the harmonic mean should be favored as a central tendency measure compared to the arithmetic mean or the median.
Finally, we found a systematic variation in precision when the sample was divided into groups based on industry affiliation and transaction characteristics

EducationsMSc in Finance and Accounting, (Graduate Programme) Final Thesis
Publication date2017
Number of pages133