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Relative Valuation Model: Definition & An Overview

Updated: February 27, 2023

Relative valuation is a valuation technique that helps investors determine the value of a company. They achieve this through comparison with comparable companies. This can be helpful where a company has a unique value proposition that is not comparable with other companies.

It is also helpful in situations where there is a large gap between the value of the company and the value of a comparable company.

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    • To determine a firm’s financial worth, a relative valuation model compares the value of a company to its competitors.
    • The price-to-earnings (P/E), one of the most widely used relative valuation multiples, is also a popular one.
    • A relative valuation model is different from an absolute one that does not reference an industry average or other companies.
    • To assess the company’s stock market value relative to other companies and averages, a relative valuation model is possible.

    What Is the Relative Valuation Model?

    Relative valuation is one of the many forms of valuation. It helps investors tell the value of a company compared to similar companies. This can be helpful when a company has a unique value proposition that cannot be compared with other companies.

    Investors rely on this comparative price metric to determine the ratio of price compared to other companies in the same industry. It’s easy to compare the same types of firms, such as in the financial industry.

    But what if a company does not have any comparables? This simply means that there is no other company in the same industry and sector that has the same unique value proposition. And the lack of comparables means that the company is probably unpriced.

    If the company has a unique value proposition, it is not priced since you can’t value it through a comparison with other companies. Current share pricing is also only available for public companies. This could affect market prices, so be mindful.

    On the other hand, if the company is currently undervalued, it could be because there are no comparable companies. In this case, the company’s valuation can improve by estimating the value of other companies. But make sure that they have the same unique value proposition as the company.

    You can use relative forms of valuation on public companies and private companies. Just keep in mind that it might be harder to determine future cash flows of private ones.

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    Types of Relative Valuations

    The three most common types of relative valuations are P/E, E/V, and P/S, where:

    P/E: Price-to-Earnings

    E/V: Enterprise Valuation

    P/S: Price-to-Sales

    P/E ratios compare a stock’s price to its earnings. A high P/E ratio means that investors are paying a lot for each dollar of earnings, while a low P/E ratio means that they are paying less.

    Moreover, many different factors affect P/E ratios. For example, earnings growth, expected future earnings, and inflation.

    E/V ratios compare a company’s market value to its underlying assets and earnings. A high E/V ratio means that the company’s overvalued, while a low E/V ratio means that it’s undervalued.

    P/S ratios compare a stock’s price to its sales. A high P/S ratio means that investors are paying a lot for each dollar of sales, while a low P/S ratio means that they are paying less.

    P/S ratios are affected by many different factors, such as growth rates, expected future sales, and profitability.

    Relative valuations are not perfect, however, and should not be used as the sole basis for investment decisions. Other factors, such as a company’s fundamentals, should also be considered

    How to Calculate Relative Valuation?

    There are many types of relative value ratios. These include price to free cash flow (EV), operating Marg, and price to Cash Flow for realty.

    The price/earnings ratio is one of the most widely used relative valuation multiples. This ratio gets calculated by multiplying stock price by earnings/share (EPS) and expressed as a multiple on a company’s earnings. A high P/E ratio means that a company gets valued at more per dollar than its peers.

    A company with a low ratio of P/E is also considered undervalued. It trades at a lower per-dollar EPS price and is therefore considered overvalued. To determine relative market value, you can use this framework with any number of prices.

    If a company is trading at 5x earnings and the industry average P/E is 10x, then it is likely undervalued relative to its peers.

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    How to Use Relative Valuation Model?

    The relative valuation model compares companies that are within a certain distance, such as a country or industry sector. To find the value of a company that does not have any comparable companies:

    • First, the unlisted company gets compared with other companies that are within the distance.
    • Next, the major value of the comparable companies estimates the value of the unlisted company.
    • The unlisted company is then compared with other companies that are beyond the distance.
    • Through this comparison, investors can get a better understanding of the company’s value.
    • The investors can then decide whether they want to increase the price or decrease their investment in the company.

    This is vital for investors to determine the value of a potential acquisition. In some cases, the relative valuation can be so low that the investor eventually backs out of the sale. Or in other cases, the relative valuation shows that the investment is worth more than anticipated.


    A relative valuation model estimates the value of a company compared to similar companies. It’s a good way for investors to get a rough idea of what to expect when positioning to buy a company. From there, they must perform more intensive valuations to get a clear value of the business.

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    Frequently Asked Questions about Valuation Analysis

    Does relative valuation have limitations?

    Relative valuation is like any other valuation tool. The assumption that the market has correctly valued the business is the biggest limitation.

    When should you use relative valuations?

    A relative valuation model can be used for assessing the company’s stock prices in relation to other companies and an industry average.

    How can you best understand relative valuation?

    The relative valuation attempts to determine the value of a company by comparing it to similar companies. You use the same metric for companies within the same industry.

    What is an advantage of using relative valuation?

    The biggest advantage is that relative valuations are easy to perform.

    What is an example of relative value?

    A good example is choosing between a $500 smartphone and a $2,000 smartphone. Both provide the same features, but one is cheaper than the other. In this case, the pricier smartphone has poor relative value.


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