Comparable Companies Analysis

Though there are many techniques to analyze company's financial results, comparable companies
analysis might be considered the one to begin with. The version presented here is slightly primitive compared to analyses made at financial institutions, because it makes it easier to grasp the subject in the beginning. Before presenting examples, it is useful to be familiar with the formulas and know where it is most simple to find the information necessary in order to conduct an analysis. Googling will provide  the filings, but the most accurate is always the data under investor relations, which is located on every company's personal website.

Joshua Rosenbaum and Joshua Pearl “Investment Banking”

Conducting Comparable Companies Analysis

• Investor picks a company stock of his choosing – target
• Companies from same sectors, possibly similar size (small/medium/large-cap) and operating region to compare the target with – trading comps.
• Choose the most accurate indicators for certain industry in order to decide whether the stock is overvalued or undervalud – trading multiples

Market Valuation

Equity Value = Share Price x Fully Diluted Shares (Basic Shares Outstanding + “In-the-money” Options + “In-the-money Convertible Securities)

Enterprise Value = Equity Value + Total Debt + Preferred Stock + Noncontrolling Interest – Cash and Cash Equivalents

Profitability - the higher the better

Gross Margin = Gross Profit (Sales*-COGS**) / Sales

*Sales = Revenue = Turnover

**COGS – Cost Of Goods Sold

Companies always seek to increase gross profit margin through improving the efficiency of the manufacturing process. Other losses besides COGS are called operating expenses.

EBITDA Margin = EBITDA / Sales

Used to indicate performance among peer companies (same areas of business), reduces the importance of different regions that have different taxes and interest rates.

Net Income Margin = Net Income* / Sales

*Net Income = Earnings = Profit

Essential in order to increase EPS (earnings per share), which is the most common and important indicator for the market's decision towards the stock.

Return on Investment – the higher the better

ROE margin = Net Income / Average Shareholders' Equity

ROE = Return on Equity

Average Shareholders' Equity is calculated by summing up Total Equity of current year and prior year and dividing with 2.

For example : Company named XYZ has Total Equity of 1500 million euros in 2012 and 2500 million euros in 2013.

Average Shareholders' Equity = 1500 + 2500 / 2 = 2000 million euros

Measures the return generated on the equity provided to a company by its shareholders.

ROA margin = Net Income / Average Shareholders' Assets

ROA = Return on Assets

Calculating the Average Shareholders' Assets is the same as Average Shareholders' Equity.

Measures the return generated by a company's asset base.

Dividend Yield = Most Recent Annual Dividend Per Share / Share Price

Annual Dividend = Quarterly Dividend x 4

Credit Profile – the lower the better

Leverage = Debt / EBITDA

Leverage refers to a company's debt level. Reveals a great deal about financial policy, risk profile and capacity for growth. The higher a company's leverage, the higher its risk of financial distress and bankruptcy due to the burden associated with greater expense and principal repayments. This ratio can be viewed as the measurement of how many years of a company's cash flows are needed to repay its debt.

Financial Results to Share Price

P/E = Share Price / EPS (Earnings Per Share)

P/S = Share Price / Sales

P/B = Price Share / Book Value (Total Assets – Total Liabilities – Intangible Assets)

Financial Results to Enterprise Value

EV/EBITDA = Enterprise Value / EBITDA

EV / Sales = Enterprise Value / Sales

Conclusion

Although the next step would be benchmarking the companies, the first aquaintance ought to be made with trading multiples before moving forwards.

Benchmarking means determining the intervals to the trading multiples that include enterprise value while considering other multiples as well. Afterwards based on the benchmarking, the intervals for implied enterprise value and therefore the implied share price shall be calculated.

For now, the price targets and opinions are formed not through benchmarking, but by taking into account all trading multiples of the comparable companies and comparing these to each other in order to reach the conclusion.