The market value method or comparative value method (“market approach”) is a valuation method that determines the value of a company based on market transactions of comparable companies. It is based on the assumption that market prices reflect all available information and therefore represent an objective indicator of value. This approach is popular for its directness and use of market data and is often used in corporate sales, financial reporting and legal valuation issues. Selecting relevant peer companies and interpreting market data are crucial to the accuracy of the valuation.
Two different approaches to the market value method
Comparable Companies Analysis (CCA) is a procedure that is based on valuation through comparison with listed companies. Financial key figures and industry multiples such as the price-earnings ratio or enterprise value in relation to EBITDA are used to derive the value of a company. The challenge lies in selecting truly comparable companies and correctly adjusting their metrics to compensate for differences in business models, growth rates and market positioning.
Comparable Transactions Analysis (CTA) analyzes recent sales of similar companies to determine a realistic market value. This method reflects what buyers are willing to pay under current market conditions and takes into account premiums for control or synergies. The difficulty with CTA lies in the availability and comparability of transaction data , as not all sales details are publicly available and transactions often have industry-specific characteristics.
Valuation multiples in the market value method
Valuation multiples are a central element of the market approach and play a crucial role in company valuation. They enable companies to be compared based on standardized value metrics.
- Explanation : Measures the value of a company relative to its earnings before interest, taxes, depreciation, and amortization.
- Advantages : Provides information about operational performance without the influence of capital structure.
- Disadvantages : May be biased in capital-intensive business models that require large investments.
- Frequency of Use : Common, especially in industries where depreciation and amortization have a significant impact on financial performance.
- Explanation : Represents the company value in relation to operating profit before interest and taxes.
- Pros : Focuses on operating profitability and is useful for comparing companies with different depreciation policies.
- Disadvantages : Not suitable for companies with high levels of debt as interest expenses are not taken into account.
- Frequency of Use : Often used, especially when companies’ depreciation strategies are not comparable.
- Explanation : Stands for Seller’s Discretionary Earnings and measures the value of a company in relation to the income available to the owner.
- Benefits : Takes into account income that goes directly to the owner and is therefore relevant for personally managed SMEs.
- Cons : Can be subjective and depends on the owner’s spending structure.
- Frequency of Use : Very common in smaller and owner-managed businesses where the owner’s personal decisions affect profits.
P/E multiple (price-earnings ratio)
- Explanation : Measures a company’s stock price relative to its earnings per share.
- Pros : Simple and intuitive, reflects market profit expectations.
- Disadvantages : Less meaningful for companies that do not make profits or whose profits fluctuate widely.
- Frequency of use : Widely used in listed companies and also applicable to SMEs with stable profits.
- Explanation : Compares company value to sales and is often used when evaluating companies that are not yet turning a profit.
- Pros : Useful when evaluating growth companies that are not yet profitable.
- Disadvantages : Does not take into account the cost structure and profitability of the company.
- Frequency of use : Particularly common in young, fast-growing industries or start-ups.
Book value multiple
- Explanation : Relates the company value to the book value of equity.
- Advantages : Based on objective, balance sheet values, simple calculation.
- Cons : Does not always reflect true market value or future earnings potential.
- Frequency of Use : Mainly used in asset-intensive industries or in valuation for liquidation purposes.
In practice, the preferred multiples vary depending on the industry, market situation and company life cycle. For SMEs, the availability of comparative data must also be taken into account. Selecting the right multiple is crucial to achieving a realistic and market-driven valuation.
Market data and the valuation of SMEs
Market data poses a particular challenge for small and medium-sized companies (SMEs), which are rarely listed on stock exchanges. Comparable Companies Analysis (CCA) requires a careful selection of similar companies, often limited by different business sizes and market conditions. Comparable Transactions Analysis (CTA) may be more relevant as it looks at actual sales cases that could reflect SME-specific market conditions. However, access to such data is often restricted.
NIMBO is a leading transaction multiples platform for SMEs in various countries. We publish current multiples for different countries, company sizes and industries every month .
Step-by-step instructions with example
Comparable Companies Analysis (CCA)
- Selection of comparable companies : Identify a group of companies that have similar business models, sizes and markets to the SME being evaluated.
- Data collection : Collect financial data from these companies, including revenue, EBITDA and net income.
- Calculating multiples : Calculate valuation multiples such as P/E, EV/EBITDA, or EV/sales for each peer company.
- Make adjustments : Adjust multiples to account for differences in growth, risk and capital structure (see chapter below).
- Application of the multipliers : Apply the adjusted multipliers to the corresponding financial indicators of the SME being evaluated.
An SME has an EBITDA of 2 million. Similar companies traded at an average EV/EBITDA multiple of 5. After adjustments for a higher growth rate, a multiple of 6 might be appropriate, resulting in an enterprise value of 12 million (2 million EBITDA x 6).
Comparable Transactions Analysis (CTA)
- Select relevant transactions : Find recently completed sales of companies similar to the SME being valued.
- Analyzing Transaction Details : Examine the terms of each transaction to understand relevant details such as purchase price and financials.
- Calculating Transaction Multipliers : Determine the multipliers from these transactions, such as purchase price to sales or purchase price to EBITDA.
- Adjust for specifics : Consider factors specific to the transactions that do not apply to the SME being valued.
- Application to the SME : Use the adjusted transaction multipliers to estimate the value of the SME.
The SME has a turnover of 5 million. Comparable transactions show an average purchase price/sales multiplier of 1.2. Taking into account a stronger market positioning of the SME, a multiple of 1.3 could be appropriate, resulting in an estimated sales price of 6.5 million (5 million sales x 1.3).
NIMBO offers an online company value calculator , which is based on the CTA method and takes current market data and special features into account.
Enterprise value vs. Equity value as part of the market value method
When valuing companies using the market approach, the distinction between enterprise value (EV) and equity value is of central importance. Both concepts reflect different aspects of company value and play an important role in interpreting valuation multiples.
Enterprise Value (EV)
The EV measures the total value of the company, including debt and minus liquid assets. It represents the value of all demands on the company – both equity and debt investors. In the context of the market approach, EV is often used in conjunction with EBITDA or EBIT multiples to assess operating profitability regardless of the financing structure.
Advantages : Provides a holistic assessment as it includes all sources of capital.
Disadvantages : Can be more complicated to calculate, especially when non-essential assets or liabilities need to be taken into account.
Equity Value (enterprise value)
The equity value is the value that the owners of the company, i.e. the shareholders, are entitled to. It is calculated by subtracting the net financial debt (debt less liquid assets) from the EV. When using multiples such as the price-earnings ratio (P/E) or the book value multiple, the calculated value refers to the equity value.
Advantages : Directly relevant to shareholders as it represents the value of their shares.
Disadvantages : Can be misleading for companies with high debt or significant liquid assets.
When applying the market approach to SMEs, it is essential to understand whether the calculated value relates to EV or equity value in order to draw the correct conclusions. This is particularly relevant when it comes to purchase price negotiations or financing decisions, where the demands of various stakeholders must be taken into account. The correct application and interpretation of these values allows evaluators to deliver accurate and relevant assessments for SMEs.
Example of applying EBITDA multiple to enterprise value and equity value
In order to calculate both Enterprise Value (EV) and Equity Value for an SME valued based on an EBITDA multiple, we need additional information about the company’s capital structure, particularly the level of liabilities and liquid assets Medium. Here is an example scenario:
- EBITDA: 3 million
- EBITDA multiple: 5
- Total liabilities: 2 million
- Liquid assets: 500,000
Calculating Enterprise Value (EV):
EV= EBITDA × EBITDA multiple = 3 million × 5= 15 million
Calculating the Equity Value:
Net financial debt = total liabilities − liquid assets = 2 million − 0.5 million = 1.5 million
Equity Value= EV − Net financial debt = 15 million − 1.5 million = 13.5 million
In this example, the enterprise value of the company would be 15 million, while the equity value, i.e. the value to which the owners are entitled, is 13.5 million. The difference represents the company’s net financial debt.
Example of applying P/E multiple to equity value
Suppose the same SME has a net profit after tax of 1 million. If comparable companies trade in the market with a P/E multiple of 8, the equity value would be calculated as follows:
Equity Value= Net Profit × P/E Multiple = 1 Million × 8 = 8 Million
The equity value of 8 million indicates the value that is directly attributable to the owners of the company. This would represent the value of their shares if the company is sold.
Adjustments and valuation corrections in the market value method
When applying the market value method to SMEs, adjustments are often required to take into account the specific characteristics of the individual company and to determine an accurate value. Here are the key elements of the adjustments:
- Size adjustments : SMBs can have different risk profiles and growth prospects compared to larger companies. Adjustments to size premiums or discounts are necessary to account for these differences.
- Market-Specific Adjustments : Local and regional markets may differ significantly from the conditions under which comparable companies were valued. Adjustments for geographic and market-specific factors are therefore often necessary.
- Non-Essential Assets : SMEs sometimes hold assets that do not directly contribute to the company’s profitability. The value of these assets must be determined separately and deducted or added to the operating goodwill.
- Non-recurring items : One-off income or expenses that are not recurring must be identified and eliminated from the valuation to obtain an accurate picture of the sustainable earnings situation.
- Synergy and control premiums : Valuation in acquisitions must consider potential synergies or the premiums for gaining control that can increase value beyond pure market value.
- Warehouse : Read our editorial on handling the warehouse .
The adjustments mentioned are crucial in order to take the specific characteristics of SMEs into account in the valuation and to ensure that the value determined is as accurate as possible. The ability to make informed adjustments is a key aspect of valuation competency in the market value process.
Advantages and limitations of the market value method
The market approach can be an effective valuation method for SMEs if used carefully and with its limitations in mind.
- Market relevance : Reflects what buyers are willing to pay in reality, allowing for a realistic business valuation.
- Negotiation Basis : Provides SME owners with a strong basis for price negotiations based on current market data.
- Transparency : Increases transparency in valuation as it is based on real market data and not subjective assessments.
- Data availability : Publicly available data on sales from comparable private companies is often lacking.
- Comparability : The unique nature of many SMEs makes it difficult to find companies that are actually comparable.
- Regional Market Conditions : Regional influences that may affect value may not be captured in general market data.
- Company specifics : Specific SME attributes such as customer relationships and market position are difficult to integrate into general market comparisons.