How does the trading comps approach determine the value of a company?

The trading comps approach, also known as comparable company analysis, determines the value of a company by looking at the market prices paid for similar companies. This method involves identifying a set of companies that are similar in terms of industry, size, growth prospects, and other characteristics. The valuation is typically derived from multiples, such as price-to-earnings or enterprise value-to-EBITDA ratios, which are calculated using the financial metrics of these comparable companies.

The strength of this approach lies in its reliance on actual market data, reflecting what investors are currently willing to pay for similar companies. This market-centric approach can provide a more accurate and relevant valuation compared to other methods that might rely heavily on estimates or forecasts, which can be uncertain. By basing the valuation on current trading multiples, the analysis gives a snapshot of how the market values companies within a specific sector at that moment in time.