Handal – selecting peers

The challenge of using relative valuation is choosing the peers. Many compare them with companies in the same sector. But companies have different strategies and different business models even if they are in the same sector. Is there an alternative way to choose?

Damodaran opined that it may be better to compare with companies with same cash flow patterns and risk profile rather than just those in the same sector. This is because these factors determine the value of a company.

One way to put Damodaran idea into practice is to check for the correlations. If say the revenue is not correlated, you should question why select them as peers.

Take the example of Handal. Over the past 13 years, there is a 0.71 correlation between Handal revenue that the median revenue of the Bursa oil & gas companies. In this case comparing its PE or PV with the sector may make sense.