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Price-to-Book Value (P/BV)
- Does not take into account the relative asset size when comparing firms.
- Accounting metrics can skew the results.
- Book value is not an accurate measure of actual market value.
Price-to-Sales (P/S)
- Sales do not always translate to profits which can leave out the cost component.
- Difficult to value companies with different cost structures.
- Accounting issues related to revenue recognition can still alter sales.
Price-to- Cash Flow (P/CF)
- Some items are not included, such as non-cash revenue.
Using the following data on Newco and Oldco, determine each company's P/E, P/BV, P/S and P/CF ratios and then interpret the results.
Data for Newco and Oldco
Answer:
Given the above results, Newco appears to be undervalued relative to Oldco on the basis of the P/E ratio. The two companies appear to be fairly valued on a relative basis with respect to the P/S ratio. Based on the B/V and P/CF ratios, Olco appears to be undervalued relative to Newco.
Conclusion
Within this section we've discussed the top-down approach of security valuation, the Dividend Discount Model (DDM), the various methods of stock market, industry, and company analysis, and technical analysis.
In the Fixed Income section we will learn bond basics.
