Asks you to compare Hand and somersault: Price trailing EPS P/E Hand $22 -$2.20 NA Somersault $10 -$1.25 NA That is the relevant info. How do you solve this? Use the E/P ratio. Which one would you prefer. E/P for hand is -.1 and E/P for somersault is -.125. Choose hand because its E/P is higher. Is my logic wrong or does CFAI want you to pick the more expensive stock that is bleeding money? How can it be right to recommend hand?
I just went back to read the section in CFAI, it says in terms of earnings yield, highest value will be the cheapest. That certainly doesn’t appear to be happening here. I guess relative to the other stock, it is losing less money for a given dollar
again don’t forget your math… -0.1 > -0.125. Closer to zero is HIGHER…
yeah doesnt seem right to me…I see where they are going, but it isnt logical… if hand were worth a $100 a share the E/P ratio would look even better… it would be -.00220 instead of -.100. and since -.00220 is a bigger number than -.100, lets pay $100 a share rather than $22 because the E.P is better… Can’t see this coming up on the test, but it makes me question CFAI’s logic and how carefully they proofread their books.
it is -0.1 and -0.125 right… so -0.1 is the bigger number…
Yes, he correctly chose hand. However, hand is more of an expensive stock purchase BUT in terms of how much somersault loses per unit dollar, it is less…
yeah that is right… but i can make -.1 even bigger id i raise the stock price to $100… then the ratio becomes -.0022 and the price rose $80 a share… its pointless arguing really, but seems pointless of cfa to use this a rationale for their answer… I get that the higher the ratio the better, but this doesnt seem to work with negatives so well…because you can always make the negative better by raising the denominator (i.e the stock price)
and how are you going to do that? with negative earnings when most of the value derivation is given by “Cash flows” – and you have none - or are in the Red on cash flows - how do you aim to increase the price???
I see your point Ali… that makes sense and is the concept that the cfai is trying to hammer home i guess… just dont why youd pay more to lose more in the real world
Yes, but it makes sense. Think of it this way: For a $100 per share stock price, that company is losing less money relative to the purchase price. Remember, the stock price per se really isn’t quintessential, you’ll just buy a lower number of shares to have an equal cost basis
CP I am not saying the company increases the price, but if the security is misvalued by the market to be worth $100 instead of $22, the E/P makes it look better
yeah im looking at it from the investor stand point Ali… but from a company perspective it is better to lose 2% then 10%, i see your point