Comparables & Relative Valuation

Introduction

While DCF estimates absolute value, relative valuation compares a company's multiples to its peers. It's faster and grounded in what the market pays for similar businesses. This lesson explains how it works.

The Idea

Relative valuation answers: "Compared to similar companies, is this one cheap or expensive?"

It uses multiples like P/E, EV/EBITDA, P/B and compares them to a peer set average or median.

Choosing the Right Peers

A meaningful peer set must be:

• Same industry or close
• Similar business model and growth stage
• Similar region/scale where feasible

Doing the Comparison

Company A  P/E 28
Peer set:  average P/E 22, median 21
=> A trades at a premium to peers

Then judge whether the premium is justified (faster growth, better moat) or not.

Combining With DCF

Relative and absolute valuation complement each other:

• Relative tells you what the market currently pays for peers
• DCF tells you the fundamental intrinsic value

The Limits

• Peers may themselves be over- or undervalued
• Markets can stay "wrong" for long periods
• Relative value doesn't tell you if the whole sector is overpriced

Real-World Example

A bank trades at P/B 0.8 while peers average 1.1, and its ROE is above average. The discount may reflect genuine concern — or an opportunity. Cross-checking with DCF and reading the fundamentals clarifies which it is.

Summary

• Relative valuation compares a company's multiples to peers
• Multiples: P/E, EV/EBITDA, P/B
• Peers must be genuinely comparable
• Combine relative with DCF for stronger confidence
• Peers can be mispriced; relative value isn't absolute truth

Next Lesson

Putting it all together: value to an investment decision.