Company Valuation
1.The price to book and price-to-earnings ratios for the four airlines discussed in the case are as follows:
company
Market-to-book value ratio
A
1.0
B
1.1
C
2.3
D
2.9
The first, I used the financial leverage gain to match the P/B and P/E ratio. Company A financial leverage gain is positive from the year 2009 to the year 2011, while from the year 2012 to 2013, the leverage is negative. The financial leverage for company B had a negative value for the year 2009, while from 2010 to 2013, the leverage was positive. Company C had a positive value in the year 2009 while the year 2010 and 2011 had negative leverage, but from 2012 to 2013 the leverage was positive. Company D experience negative financial leverage gain from the year 2009 to 2013. The company with negative leverage gain has a higher risk, and the investors will not relent in investing with such a company hence its P/B ratio will not be favourable while the firm with positive leverage gain will have a favourable P/B ratio.
Second, I considered the return on assets (ROA) ratios for the companies because a firm with higher ROA means that the company is utilising its assets to generate more income. In that account, the ROA ratio for A and D companies have higher ROA though the value for A is more excellent than those of B. D and C organisations have a lower ROA but B has higher ROA than C.
Finally, I made a comparison of the growth rate. A, B and D have positive growth rate although the growth rate for A is higher followed by the growth rate of D and finally B. the growth rate for C has negative growth, and its growth rate is low.
In summary, A has greater ROA, higher growth rate and two risky years. B has higher ROA, with only one precarious year and positive but low growth rate. C has two perilous years, has one negative year growth and lowest ROA. D has risky years throughout, while its growth is steady, and its ROA is also higher. An average P/B for benchmark is 1 thus companies with average of 1 have favourable P/B ratio while those with higher values are over values such as P/B value of 3.9 and 2.9 meaning the firms with this P/B ratio are more risky to invest (Wakil, & Tooley, 2014).
Price per earning (P/E)
Company
P/E ratio
A
24.2
B
15.5
C
14.1
D
7.1
I did the valuation of the P/E ratio by considering two factors. First, I considered the risk of the firms. A B and c are less risky, but D has risk in all years. The second factor is growth rate the growth rate of the firms in descending order is A, D, B and C. in that account; the company will prefer to invest in company A, B, C and respectively when using the P/E valuation( Peterson., & Fabozzi, 2012). The average P/E for benchmarks 20-25 multiple.
2 What characteristics of Company A are relevant to its valuation multiples?
The company has a low risk
Higher growth rate
Higher return on capital
- What characteristics of Company B are relevant to its valuation multiples?
The company has a low risk
Moderate growth rate
Moderate rate of return
- What characteristics of Company C are relevant to its valuation multiples?
The company has a low risk
Low growth rate
Moderate rate of return
- What characteristics of Company D are relevant to its valuation multiples?
The company has a higher risk
Higher growth rate
Higher rate of return
- What factors in general, drive firms’ price-to-book ratios? What drive price-to-earnings ratios?
There are four drivers of the price-to-book ratio: profit margin, company strategy, operation efficiency and the prospect of the company growth. The profit margin of an organisation enables the firm to realise higher returns on its equity. If the return on investment and return on the asset are essential to determine how the company is utilising the shareholder’s fund. The second driver is how the company strategies to fund its financing and investing activities. In that account, the company should ensure its debt-equity ratio is low to ensure the company does not go to liquidity. Thirdly, the operation efficiency of the firm is critical in determining the firm’s multiple ratios. Lastly, the key driver to determine the multiples is company growth which analysts can examine using the past growth rate of the organisation (Financial Ratio Analysis, 2011)
Refrences
Peterson, D. P., & Fabozzi, F. J. (2012). Analysis of financial statements.
Financial Ratio Analysis. (January 01, 2011). 243-274.
Wakil, G., & Tooley, S. (January 01, 2014). Market-to-book ratio and conditional conservatism: firms’ voluntary expensing of employee stock options. Accounting Research Journal.