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Valuation Multiples
Valuation multiples compress a lot of information into a single number. That’s useful — but also dangerous.
1) P/E (Price-to-Earnings)
P/E = Price / Earnings per share
Pros:
- Simple and widely understood
Cons:
- Earnings can be cyclical or distorted by one-time items
- Different accounting choices affect comparability
2) EV/EBITDA
Enterprise Value (EV) includes debt and cash:
- EV = market cap + debt − cash
Pros:
- More comparable across different capital structures
Cons:
- EBITDA ignores capex needs and working capital
- Can overstate cash generation for capital-intensive businesses
3) Price/Sales
Useful when earnings are temporarily low or negative.
But sales quality matters:
- Gross margin
- Retention and churn
- Unit economics
4) When Multiples Mislead
Multiples are most dangerous when:
- The business is cyclical (peak earnings)
- Growth is changing fast
- Accounting is noisy
- Leverage is high
Summary
Multiples are a starting point, not a conclusion. Compare to peers, adjust for cycles, and sanity-check with cash flow and balance sheet strength.