P/E ratio for valuing firms
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Many experts suggest that the PE ratio is an obsolete way to value firms.
Why do they say that and what alternatives exist?
Use the Library or other Web resources to find examples that support your answer.
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Solution Summary
Many experts suggest that the PE ratio is an obsolete way to value firms.
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There are many limitations associated with using P/E ratio for valuing firms, such as:
-- Earnings Manipulation -- Companies often use a variety of accounting techniques to alter their reported net income. As a result, the reported earnings figures we read about are often not entirely representative of a company's true financial situation. Since net income is a critical component of a firm's P/E ratio, manipulated earnings can lead to misleading P/E data.
-- Industry Differences -- Different industries typically have different historical growth rates, risk levels, etc... and hence different average P/E ratios. Thus, stocks that may appear cheap in one industry may look expensive when stacked up against another. For ...
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- MBA, Rochester Institute of Technology
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