Enterprise Value Multiples

How to analyse the trends in the EV/EBITDA multiple?

Whilst analysing EBITDA multiples for a firm or sector, it needs to be done for a trend of at least three years and not just one year. Usually, this is the historic year EBITDA multiple, the current year multiple, and the forecast multiple for the next year. To work out the EBITDA multiple, we take today’s enterprise value (based on today’s share price and the latest net debt figure) to calculate all three years’ EBITDA multiples. So, if underlying EBITDA is rising over the three years, then the multiple will be falling.

What is the importance of using underlying numbers?

Underlying items can also be called “recurring” or “business performance” or “excluding exceptional items”. You should also exclude any financial income such as dividends and investments and rental income, when you calculate your underlying EBITDA. One complication here is that a firm may regularly dispose of assets or businesses and therefore regularly report a gain on disposal and they would argue that these gains are recurring items. However, gains on disposal are not part of the core earnings.

However, you will see that we can only apply a multiple to an earnings number if we receive that earnings number every year in the future, plus or minus a growth factor 

So, you must always calculate  underlying EBITDA, EBIT or net profit, or whichever metric you are using, to arrive at a meaningful valuation. 

Working out an underlying number can be time consuming and involve a detailed analysis of the notes to the financial statements. Moreover, some firms, particularly weaker ones, may make it very hard to spot some of these one-off gains by burying them in other numbers. There may also be some subjectivity to calculating one-off numbers, so valuers will end up with different underlying EBITDAs. If the firm has reported a loss on disposal or another one-off loss such as restructuring costs, it could be fair to add these back to arrive at underlying EBITDA, as long as you are sure that these costs or losses really are exceptional. 

What are the adjustments to the valuation for non-operating assets?

If a firm has included in its EBITDA or net profit some financial income such as dividends from investments or net profit attributable to joint ventures and associates or rental income from surplus property. We need to exclude these amounts from our EBITDA and net profit and not apply a multiple to them. However, the firm’s investments, its surplus property and its stakes in its joint ventures and associates probably have a positive value. So, the best thing to do is to value these assets separately from the underlying business.  The investments may have an easily observable value or you may have to value the underlying asset such as the surplus property. In addition, you may well have to undertake a separate valuation of the joint ventures and associates and apply a discount to reflect the firm’s position as a joint owner or minority investor and another discount for illiquidity.