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How does an analyst value a loss-making company?
There are usually three ways to value a loss-making company.
• First the company could be a fast-growing technology company which needs to reinvest all its profits into marketing to fuel its high growth and win as many customers before competition kicks in. Using a DCF valuation technique, the analyst could build a longer-term model of 10 years than the typical five-year model (if relevant) and assume that profits of the company normalises to that of similar companies in the same sector or technology companies in a different sector. For example, this technique is used to value even behemoths such as Amazon which operate on wafer thin margins but trade on PE multiples of more than 50x which is significantly higher than the multiple of other technology companies operate with high operating margins.
• Secondly, the analyst could use a simple Price to Sales ratio to value the company. An analyst can compare the company’s price to sales ratio with similar companies in the sector which already operate on a normalised operating profit margin.
• Finally, Price to Subscriber or some other matrix such as Price to Website Visitors etc allow investors to quantify revenue and profitability potential of the company. The advantage of this method is that it allows investors to value companies in the early stage which are currently pre-revenue but have several free subscribers or repeated website visitors.
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