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# Revenue Multiple

Step-by-Step Guide to Understanding the Revenue Multiple Concept in Relative Valuation

Last Updated June 19, 2023

## How to Calculate Revenue Multiple (Step-by-Step)

A revenue multiple is a form of relative valuation, where an asset’s worth is estimated by comparing it to the market’s pricing of comparable assets.

Usually, multiples with revenue as the denominator are most often used to value companies with negative profit margins that cannot be valued by other traditional valuation multiples (e.g. EV/EBITDA, EV/EBIT).

In general, a revenue-based valuation multiples is rarely used unless there are no other options available (i.e. if the company is unprofitable).

The two most common variations are the following:

## Revenue Multiple Formula

Starting off, the EV/Revenue is the ratio between a company’s enterprise value and revenue.

EV/Revenue = Enterprise Value ÷ Revenue

Next, the price-to-sales ratio is the ratio between a company’s market capitalization (“market cap”) and sales.

Price-to-Sales (P/S) = Market Capitalization ÷ Sales

The distinction between the two multiples is related to the necessity for the numerator and denominator to match in terms of the group of stakeholders represented.

• EV/Revenue → Enterprise Value Multiple
• Price-to-Sales → Equity Value Multiple

The EV/Revenue calculates the value of the firm’s operations to all stakeholders, such as debt and equity investors. In other words, the calculated valuation is the company’s enterprise value, which represents the total firm value, i.e. the value of a company from the perspective of all of its stakeholders, such as its common equity shareholders, preferred stockholders, and debt lenders.

The price-to-sales ratio, in contrast, calculates the equity value, otherwise known as a company’s market capitalization. Unlike the enterprise value, the market cap is the residual value of a company from the viewpoint of solely common shareholders.

## Revenue Multiples: Pros and Cons

In comparison to earnings multiples, such as EV/EBITDA, revenue-based multiples are less prone to discretionary accounting decisions by management that can skew results.

While earnings multiples are used far more frequently in practice, one major drawback is that decisions such as the useful life assumption on depreciation, inventory recognition policies, and research and development (R&D) spending can all influence the resulting implied valuation.

Revenue multiples can be used for companies that are either unprofitable or have limited profitability, which is their primary use case.

The lack of profitability could be the result of the company being in the early stages of its lifecycle (i.e. startups), or the company may currently be struggling to turn a profit.

On the other hand, revenue-based multiples neglect profitability, which arguably is the most important factor that determines the long-term sustainability of a company.

All companies, at some point, must become profitable for their free cash flows (FCFs) to fund their day-to-day operations and spending requirements. Often, revenue-based multiples can attach a premium to high-growth companies without consideration of their profit margins and cost management.

## SaaS Valuation Multiples and Unprofitable Startups

For early-stage companies exhibiting high growth, an earnings multiple is not feasible if the company is not yet profitable.

Oftentimes, the companies valued using revenue-based multiples are startups or late-stage growth companies in very competitive markets that recently became publicly traded.

In the latter case, the competition in the market causes companies to prioritize growth and increased scale over profitability.

While not optimal, a company’s negative earnings limit the ability to use traditional valuation multiples, forcing reliance on other options.

## Revenue Multiple Calculator – Excel Template

We’ll now move to a modeling exercise, which you can access by filling out the form below.

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## Revenue Multiple Calculation Example

Suppose a company’s shares are currently priced at \$10.00 each, with 5 million shares in circulation on a diluted basis.

• Current Share Price = \$10.00
• Diluted Shares Outstanding = 5 million

Given those two assumptions, the company’s market capitalization is \$50 million.

• Market Capitalization = \$10.00 × 5 million = \$50 million

We’ll also assume the company’s net debt balance (i.e. total debt less cash) is \$10 million and its revenue for the fiscal year 2021 is \$20 million.

• Net Debt = \$10 million
• Revenue = \$20 million

The fact that the company’s net debt is half of its total revenue suggests operations are funded via external financing, i.e. debt, rather than its own cash flows.

After adding the company’s net debt to its market capitalization, i.e. equity value, the enterprise value (TEV) comes out to be \$60 million.

• Enterprise Value (TEV) = \$50 million + \$10 million = \$60 million

We calculate the EV/Revenue and price-to-sales ratios as the following:

• EV/Revenue = \$60 million ÷ \$20 million = 3.0x
• Price-to-Sales = \$50 million ÷ \$20 million = 2.5x

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