What is 'Pure Play'
A pure play is publicly traded company focused on only one industry or product. Pure play companies are popular with certain types of active investors who want to make very specific bets on particular products or industry segments. For these investors, buying a company with several diversified business lines forces them to take risks in industries in which they do not want to invest.
BREAKING DOWN 'Pure Play'Investors like pure plays because the cash flows are easy to follow. No group is more appreciative of pure plays, however, than the analyst community. While such companies are rare, pure plays provide analysts with greater accuracy in developing valuations based on relative and precedent transactions. An example of a pure play is Starbucks Corporation (NASDAQ: SBUX); the business sells coffee. An example of a company that is not a pure play is General Electric (NYSE: GE); the company has many different business lines and brands under the same umbrella.
Pure Plays Usage
For analysts, pure plays represent an opportunity to obtain more accurate data for a comparable or peer analysis. These reports are a vital source of information for investment analysis and the basis for relative valuations. Relative values include price-to-book ratio, price-to-earnings ratio, price-to-sales ratio and price-to-cash flow. Each of these values can help the investment analyst calculate the relative value for a company, which allows the analyst to report if the company is overvalued or undervalued. These relative values are based on a peer group. Failure to select the right peer group can lead to inaccurate valuations and the loss of money. This is why analysts seek out pure plays. The more focused a particular company is, the easier it is to provide a valuation because the cash flows belong to one business. A company with two lines of business may have different profit margins.
Pure Play Analysis Example
An analyst has been tasked with valuing Company A. She needs a peer group of pure plays to develop the best analysis. Company A manufactures zippers. The analyst finds five other companies that manufacture zippers to use in a comparable company analysis, but only two are pure plays. That is, only two manufacture only zippers. The other three companies manufacture zippers and have a stake in local mining operations. Mining operations have a very different business model. The three companies with business operations in both zippers and mining are not considered pure plays. Including them in the peer group skews the analysis. Pure plays are also used to obtain the peer group for beta or risk analysis.