What Valuation Models Do Analysts Use?

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Abstract
This paper adopts a structured positive approach to explaining the valuation practices of financial analysts by studying the valuation methodologies contained in 104 analysts' reports from international investment banks for 26 large U.K.‐listed companies drawn from the beverages, electronics, and pharmaceuticals sectors. We provide a descriptive analysis of the use of alternative valuation models focusing on the value‐relevant attributes that analysts seek to forecast and the methodologies analysts use to convert the forecasts into estimates of firm value. We postulate and test a number of hypotheses relating to how the valuation practices of analysts vary systematically across industrial sectors. We find that: (1) the use of valuation by comparatives is higher in the beverages sector than in electronics or pharmaceuticals; (2) analysts typically choose either a PE model or an explicit multiperiod DCF valuation model as their dominant valuation model; (3) none of the analysts use the price to cash flow as...