I have one company with a 40% EBITDA margin trading at 8x EBITDA, and another company with a 10% EBITDA margin trading at 16x EBITDA. What’s the problem with comparing these two valuations directly?

There’s no “rule” that says this is wrong or not allowed, but it can be misleading to compare companies with dramatically different margins. Due to basic arithmetic, the 40% margin company will usually have a lower multiple – whether or not its actual value is lower.

In this situation, we might consider screening based on margins and remove the outliers – you would never try to “normalize” the EBITDA multiples based on margins.