What is a common valuation method used in fundamental analysis?

Comparable company analysis, often referred to as "comps," is a widely used valuation method in fundamental analysis. This approach involves evaluating the financial metrics of a company by comparing it to other similar companies within the same industry. Analysts typically look at several key metrics such as price-to-earnings (P/E) ratios, price-to-sales (P/S) ratios, and enterprise value-to-EBITDA ratios.

The reason this method is favored is because it provides a relative valuation framework; by analyzing how similar companies are valued by the market, analysts can assess whether a company is overvalued, undervalued, or fairly priced. This method also reflects market sentiment and can help in understanding industry trends, making it a practical tool for investors looking to gauge a company’s valuation compared to its peers.

In contrast, other methods like market capitalization analysis focus solely on the overall value of the company based on its share price and number of outstanding shares, without providing a comparative industry context. The profitability index is not a direct method for valuation and is more related to project selection in capital budgeting. The dividend discount model, while a legitimate valuation method, is specifically used for companies that pay dividends, which makes it less universally applicable than comparable company analysis.