The fast-and-dirty alternative to DCF
DCF is the rigorous approach but it requires forecasts. Multiples (also called relative valuation or comps) are the practical alternative — instead of projecting cash flows, you compare the company to similar companies and infer its value from the comparison.
The most-used multiple is the P/E ratio (price-to-earnings):
Read it as: "for every ₩1 of annual earnings, the market is paying ₩X." A P/E of 25 means the market is paying ₩25 for each ₩1 of earnings. Higher P/E generally implies the market expects more growth (or that risk is lower, or both).
Common multiples and what they mean
P/E (price / earnings): the most common. Compares stock price to net income per share. Best for stable, profitable companies. Useless for unprofitable companies (negative or near-zero earnings make the multiple meaningless).
P/B (price / book value): compares stock price to shareholders' equity per share. Useful for asset-heavy companies (banks, real estate). Interpretation: "for every ₩1 of book equity, the market pays ₩X."
EV/EBITDA (enterprise value / EBITDA): compares the whole firm value (debt + equity) to EBIT before depreciation/amortization. Independent of capital structure and tax differences. Standard for cross-country and cross-leverage comparisons.
P/S (price / sales): compares stock price to revenue per share. Useful when earnings are negative or unstable, common for unprofitable growth companies.
PEG (P/E / growth rate): P/E divided by expected earnings growth. Tries to "normalize" P/E for growth differences. PEG < 1 is sometimes pitched as undervalued, but the rule of thumb is fragile.
How to use multiples in practice
Step 1: identify a peer group — companies in the same industry, similar size, similar growth profile.
Step 2: compute the chosen multiple (say P/E) for each peer. Get the median or mean as a benchmark.
Step 3: apply that benchmark to the target company's earnings to estimate value. If peers trade at P/E = 20 and your target's earnings are ₩500/share, implied price is ₩10,000.
Step 4: compare to actual price. Trading well below implied = potentially undervalued. Above implied = potentially overvalued. (Lots of caveats — see below.)
Why multiples can mislead
- Peer selection. Different "comparable" sets give different answers. Cherry-picking peers is easy.
- Earnings quality. P/E uses reported earnings, which can be manipulated or one-time-event-distorted.
- Growth differences. Two companies in the same industry can have very different growth — same P/E doesn't mean fair comparison.
- Cyclicality. P/E during a peak year can look low (high earnings), making the company look cheap when it's actually expensive in normalized terms.
Multiples and DCF are complements, not substitutes. Use both, and pay attention when they disagree — the disagreement often reveals what the market is pricing differently from your DCF assumptions.
The takeaway
Multiples = quick relative valuation. Compare a company to peers using ratios like P/E, P/B, EV/EBITDA, P/S. Easier and faster than DCF, but quality depends heavily on peer selection and earnings quality. Best used as a sanity check on DCF, not as a sole valuation method. Lesson 6-4 explores how DCF and multiples relate to each other.