Fair Value Measurement Under Level 2 Inputs: Do Market and Transaction Multiples Catch Firm-Specific Risk Factors?

Abstract

This paper focuses on fair value measurement under the IFRS 13 assumptions and the reliability of the market and transaction multiples evaluations (“Level 2” methods). We test the reliability of multiples evaluation approaches in different economic sectors, by comparing the fair value of 1678 companies estimated by multiples with the effective market capitalization over 15 years. Multiples’ fair value does not provide a reliable measure of a company’s value, with a gap that varies depending upon portfolios and time. In the case of observable Level 2 fair value indicators for a market, such as market multiples, the company’s fair value is not consistent with the real market value. Thus, whenever Level 2 indicators are not observable, the method is increasing volatility and intrinsic evaluation risk.