is the third article in a series of 4 on the evaluation of an action. In these volatile markets (I see no reason why they are the same, but this will be the subject of a future column), it may be interesting to see what is the value of his company.
Today I will talk with multiple models. The multiple most popular is undoubtedly the P / E. All know, but some use it without knowing what his involvement.
Before going further I should explain the difference between the sales comparison approach and the method based on the fundamental set. The first case is that you all know. The market price is $ 20, earnings per share (EPS) is $ 1 ... P / E = 20. The second situation is similar but slightly different. Instead of taking the values of markets, it takes values provided. For example, you estimate that your stock is worth $ 12 a discounted ( see my post on this type of model ) and that are estimated EPS of $ 0.80 ... your P / E is 15. The analysis is slightly different as well. In the first case, it seems that buying a business at 20 times earnings. In the second case, it seems that the company is worth 15 times earnings. Both methods are used on all multiples. Here I will focus on the sales comparison approach when describing ratios
And finally, before presenting each multiple, know that it would be very irresponsible to look the same ratio from 2 different sources. Ideally, you should calculate them yourself. It's not as if the calculation was difficult!
Yet another thing, such ratio can be compared to the history of the company, but also the present value of these peers.
Price / Earnings
I do not think at present this ratio. The denominator of the equation is obvious. The denominator ... a little less. For example, some data providers calculate a TTM-P / E. TTM means trailing twelve months therefore earnings are actually the sum of last 4 quarterly results. Others will take the last annual figure and some will make a serious error (can not see it anymore, but it's happened before) taking the last quarter and multiplying by 4. Personally, I prefer to use TMT.
Some say that the ratio is bad because it looks in the past while this is the future that interests us in finance. It is also possible to consider the prediction of earnings as your earnings. We then speak of a forward P / E.
An important problem of the P / E is that it is useless when earnings are negative, zero or unusually small. It is then possible to speak of an earnings yield (E / P) ratio is the reverse. The figure will now be economically significant, but will not be useful for comparative purposes. This is why companies with volatile earnings are not analyzed with the P / E.
There is also some love PEG ratio (P / E divided by growth) to separate firms according to their assessment based on their growth. Personally, I think that ratio is bad. It assumes a linear relationship between P / E and growth and the growth rate is unique. It's like the Gordon model (see model here) ... well thought out in theory, but no realistic practice.
Price / Book
This multiple is cherished by all investors values. We say that P / B \u0026lt;1 means that the company is really cheap. However, sometimes there are reasons for which P / B \u0026lt;1. A company that destroys value has a P / B under 1. Such a ratio can also raise questions about the quality of financial statements. Recall that the denominator is the book value of the shares. If the company's assets are overvalued, while the book value of the shares are too.
The reverse is also true. A company with a P / B of 5 is not necessarily expensive. A company like Becker Milk, who owns property purchased 50 years ago and has a fully depreciated book value far less than the resale value of assets.
The P / B has the advantage of not having the same problem as the P / E. The book value is relatively stable and not negative. Ok, some companies have negative book value ... in which case this ratio is useless. But saying do not have a PhD to understand that the situation is not rosy for the company. The P / B has a weakness ... Is that the book value is representative of the company? The answer is very rarely. This is besides the manipulation of figures in the balance sheet that may affect the book value.
Price / Sales
This multiple is less subject to manipulation (you can only manipulate sales ... the P / E is about the manipulation of sales and expenses). The comparison between peers here is somewhat more complex since not all companies the same cost structure. Also, some companies see their sales as net of certain expenses (discounts, returns, ...), while others will put these costs in expenditure (promotional and marketing collateral, ...).
Price / CashFlow
Which calculation of cash flow to here? Whatever you want! This is one reason why I told you to calculate it for yourself. Me, I'm normally Cash flow from operations . The advantage of cash flows on earnings is that they are less subject to accounting manipulations.
Price / Dividend
We are used inverse ratio (Div / Price) that gives the dividend yield . Some like to use it, but I do not like ... how to evaluate a business without dividends. This ratio is interesting to do method based on the fundamental set. Not for a comparable analysis.
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