Cognitive biases in company valuations: when technology meets human limitations

One of the most interesting contributions to the literature on valuation, made by Prof. Damodaran (New York Stern University), one of the world's leading experts on valuation, concerns precisely this aspect: the awareness that every valuation process is influenced by an underlying narrative. Even before defining growth rates or expected cash flows, every valuer constructs, sometimes without realising it, a 'story' about the company. It is this story that guides the choice of parameters, the selection of comparisons, the interpretation of data, and once this narrative takes shape, it becomes difficult not to adapt everything else to the initial vision. The risk is that of seeking confirmation of what one already believes, instead of questioning assumptions.

To complicate matters further, according to Damodaran, there is another widespread phenomenon: anchoring. The evaluator becomes accustomed to a number – a market multiple, a target price, a 'reference' EBITDA – and ends up modelling the rest around that value. This is not a conscious process: it is a psychological mechanism that pushes us to consider that number as a fixed point, even when the data would suggest starting from scratch. When unrecognised, anchoring can influence the entire valuation and, consequently, the outcome of a negotiation, a dispute or an extraordinary transaction.

Another recurring element is the tendency to overestimate one's own forecasting ability. For many professionals, experience becomes a double-edged sword. The more you know about a sector or category of businesses, the more you risk taking certain behaviours, certain dynamics and certain margins for granted. Familiarity reduces risk perception and leads to overly confident assessments. No market is fully predictable, and no two companies are alike. Remembering this reflects professional humility and wise caution.

Valuation is shaped not only by cognitive limits but also by interests. An evaluator working for one party in a negotiation inevitably adopts their client’s perspective. Without strong self-discipline, the model ends up justifying what the client hopes for, rather than the company’s real worth. This risk is unavoidable, but acknowledging it helps reduce its impact.

Faced with all these mechanisms, what changes the outcome is not the complexity of the model but the appraiser's awareness. Recognising one's biases is not an admission of weakness but a prerequisite for producing more robust, consistent and transparent valuations. Many professionals adopt simple but effective strategies: writing down the narrative before starting the model, submitting it to independent critical review, simulating multiple scenarios with realistic probabilities, using ranges of values rather than specific numbers, and verifying assumptions against market data rather than personal beliefs.

​

Ultimately, valuation remains a combination of technique and humanity. The model serves to bring order to the numbers, but it is awareness of one's own limitations that lends credibility to the result. A valuation that is more honest about the psychological constraints of those who prepare it is a more robust, more defensible and, above all, more useful valuation for those who have to use it.