Earnings stability and peer selection for indirect valuation

We contribute to the development of indirect valuation method for publicly traded companies. We introduce relative earning stability as a new dimension of peer selection criteria for determination of appropriate comparable group of peer companies to the evaluated company. Based on large sample of all publicly traded companies in Thomson Reuters database over 35 years, we provide empirical evidence of significant improvement of indirect valuation accuracy and precision as a result of our relative earning stability approach. Peer selection based on the relative earnings stability takes account of some idiosyncrasies of companies, which remain uncaptured by traditional industrial classification based peer selection methods. We also empirically establish superiority of a within-company price to earnings (PE) valuation technique for the most stable companies. Our empirical results are robust against different means of operationalization of the stability criterion and indirect valuation methods.