What is the flaw with the Multiples Method?
Answer
The issue is glaringly obvious and is the reason I don’t use or like the Multiples Method. Let’s think about what we’re doing here. We’re basing the value of a business in the future off of what public companies trade at today. That’s just silly. If you look at any industry broadly and find out what they traded at five years ago, you’ll be lucky to find multiples that have moved less than 40% from then to now.
Bonus points in an interview come from having a pre-researched example such as:
Well, if we use Marketing Software as an example and observe the variance between multiples five years ago to today, we can notice a variance of about 40% and that’s really the flaw with the Multiples Method. Then again, we don’t have a much better option in Gordon Growth so like anything else, there are tradeoffs between both methods.
Why this matters to bankers
As with every other method, understanding when not to use it is key to creating accurate valuations.