When valuing businesses, cash flows matter more than forward multiples
During a recent webinar, I was asked whether we have enough real data to see what forward P/E multiples look like, or whether the market is just ‘guessing.’ This is an interesting question that highlights a very important point when it comes to valuing businesses. It highlights the danger of using forward multiples to evaluate long term intrinsic value1. Significant business disruption, either as a result of the current pandemic or an abrupt downturn leading to a recession (think Global Financial Crisis) can significantly impact forward P/Es. However, these events do not have the same impact on the intrinsic value of a high-quality business. The key distinction is that forward P/Es rely on one year of earnings while a company’s intrinsic value is a function of all of its future cash flows.
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