The summer is almost here! For those, of you who intend on interning as a summer analyst at an investment bank, I hope you find this piece of advice particularly useful. Got the chance to take a corporate finance class this past semester, so I would like to share my knowledge with you!
Save it to your favorites, and maybe even refer to it because at some point, you may have to build a similar model from scratch! Lets take a look at one of the most widely used models for analyzing a company—comparable company analysis.
This model that I have attached was used to evaluate the stock price of Target. So make sure you open the attached file and follow along. I chose target particularly because all of you should know what Target it is, and who most of its competitors are, that way we can focus on the model itself.
Now of course, the first step in coming up with an accurate model, is choosing 3-5 companies that closely resemble the size, business model and construct, and overall fundamentals of our company that we seek to evaluate (TGT). After doing such research, I have concluded that Target’s best comps are Wal-Mart, Costco, BJ’s, and Sears. As shown in the excel file, we move on to obtain the key financial figures that we need in order to conduct out analysis. Nonetheless, the most important figure that we need is the enterprise value, as this is what we will base the calculation of our multiples of off. Enterprise value is simply calculated as the MV of Equity + Net debt, and can be referred to as the Market value of the company
As noted in the excel file, there are five multiples that we have calculated across each different company. For each respective multiple, we take the average given the 4 different companies to come up with a reasonable estimate as to where Target should be trading with respect to that multiple. For instance, the first multiple tells us that companies in this industry should be trading at an EV/Revenue multiple of .35. Thus in other words, on average, companies in this industry trade at .35x revenue. Another example: the average EV/# Stores multiple in this industry is 22.10. This means that companies in this industry are trading at an enterprise value of 22.10x stores.
Once all those figures are calculated, we can back out the enterprise values for Target that corresponds to different multiples. For instance, if we know that the companies in this industry on average trade at .35x revenue, we can take .35 and multiply it by Target sales numbers to come up with an enterprise value. Once we get this enterprise value we must subtract net debt from this figure in order to get the market value of equity. We divide this number by the number of shares outstanding for TGT and get an intrinsic stock price. As we repeat this process throughout the five different multiples, we will get five different Enterprise values, and thus five different intrinsic stock prices. We then take an average of the intrinsic stock price to get an estimate for the stock price of TGT, which in this case comes out to be $33.66. As we can see here, this model tells us that TGT is just about accurately priced, (at the time TGT was trading at 33.03/share). If we had obtained a value that was a bit higher it would be safe to say that TGT was undervalued, but if we had come up with a figure under the current trading price it would be safe to say that TGT was overvalued.
Hope this helps!