The Valuation Accuracy of the Price-Earnings and Price-Book Benchmark Valuation Methods

This paper evaluates the valuation accuracy of the price-earnings (P/E), the price-book (P/B) and a combined price-earnings and price-book (P/E-P/B) benchmark valuation methods. Performance of the benchmark valuation methods relies on the definition of comparable firms. In this paper, comparable firms are selected based on industry membership, size and return on equity as well as combinations of industry membership with size and with return on equity. We find that within the P/E and P/B benchmark valuation methods, the best definition of the comparable firms are based on industry membership combined with return on equity. However, only the industry membership is necessary to define the comparable firms for the combined P/E-P/B method. In sum, the results suggest that, when firm's value is unknown, the combined P/E-P/B valuation approach selecting comparable firms based on industry membership performs the best among all the approaches evaluated in this paper.