The How and Why of Stock Valuations

Business of Fashion questioned my use of the EV/Sales ratio in my post about the lack of big M&A deals in luxury right now. He said:

Lauren, measuring a company's value as a multiple of sales is not the best way of assessing value. It emphasises revenues as opposed to profit, and at the end of the day it is earnings that count....

He is right on the point he makes about valuation measures. It is true that sales multiples are not, by any means, ideal measures of value. They are just nice and simple ways that many investors use to get a first look. But neither are the multiples of earnings he recommends ideal. Valuation, and most important the potential for long term value creation (which is at the end what most investors are pursuing), is a complex matter. A whole industry lives off it! Discounted cash flows, trading or transaction multiples (whether of sales, EBITDA, EBITA, EBIT, net profit, cash earnings, adjusted cash earnings, prospective earnings) PEG ratios -- and here by the way, Coach and Tiffany are trading at almost the same level of 1x PEG (PEG means P/E to earnings growth ratio), you name it. They all come into play in the greater context of the future growth prospects, positioning, strategy, management talent, industry dynamics, etc... of a company.

My point was merely that in speaking to investors I don't get the feeling that there are bargains out there appetizing enough to entice many of the groups (which are still digesting their previous acquisitions and have many brands still to develop in their stables) to go through the pain of explaining to institutional investors the rationale of a new deal.

"Transformational deals" (ala PPR and Gucci in 2000) in the luxury space have been the dream of many an investment banker sine the industry came into age 10 years ago. But they have been few and far between. For the time being the market and the people who make its living in it, may just have to be content with the IPOs that are supposed to be coming their way. At least as far as the luxury sector is concerned.