Unformatted text preview: the stock sold for $88 per share at the end of the year. If we recall that Prufrock’s net income was $363 million, then we can calculate that its earnings per share were:
EPS Net income _____________________ Shares outstanding $363 ______ 33 $11 [3.17] 3 No, it’s not. 54 PART 1 Overview ros82361_ch03.indd ros82361_ch03.indd 54 5/27/08 10:15:00 AM Confirming Pages
PRICE-EARNINGS RATIO The first of our market value measures, the price-earnings or PE ratio (or multiple), is defined as:
PE ratio Price per share ____________________ Earnings per share $88 _____ $11 8 times [3.18] In the vernacular, we would say that Prufrock shares sell for eight times earnings, or we might say that Prufrock shares have, or “carry,” a PE multiple of 8. Since the PE ratio measures how much investors are willing to pay per dollar of current earnings, higher PEs are often taken to mean that the firm has significant prospects for future growth. Of course, if a firm had no or almost no earnings, its PE would probably be quite large; so, as always, care is needed in interpreting this ratio. MARKET-TO-BOOK RATIO A second commonly quoted measure is the market-to-book ratio:
Market-to-book ratio Market value per share _________________________ Book value per share $88 ___________ $2,591/33 $88 _______ $78.5 1.12 times [3.19] Notice that book value per share is total equity (not just common stock) divided by the number of shares outstanding. Since book value per share is an accounting number, it reflects historical costs. In a loose sense, the market-to-book ratio therefore compares the market value of the firm’s investments to their cost. A value less than 1 could mean that the firm has not been successful overall in creating value for its stockholders. This completes our definition of some common ratios. We could tell you about more of them, but these are enough for now. We’ll leave it here and go on to discuss some ways of using these ratios instead of just how to calculate them. Table 3.5 summarizes the ratios we’ve discussed.
T ABLE 3 .5 Common Financial Ratios I. Short-term solvency, or liquidity, ratios Current assets Current ratio ______________ Current liabilities Quick ratio C_____________________ _ urrent assets Inventory Current liabilities Cash ratio Cash ______________ Current liabilities II. Long-term solvency, or financial leverage, ratios Total assets Total equity Total debt ratio ______________________ Total assets Debt-equity ratio Equity multiplier _Total debt _________ Total equity T_________ _otal assets Total equity Times interest earned ratio Cash coverage ratio EBIT _______ Interest EBIT Depreciation _________________ Interest III. Asset utilization, or turnover, ratios Cost of goods sold Inventory turnover _______________ Inventory Days’ sales in inventory Receivables turnover 365 days _______________ Inventory turnover Sales _________________ Accounts receivable Days’ sales in receivables Total asset turnover 365 days __________________ Receivables turnover Sales __________ Total assets (continued ) CHAPTER 3 Financial Sta...
View Full Document
This note was uploaded on 10/28/2009 for the course FINA 505 taught by Professor Deborahcernauskas during the Summer '09 term at Northern Illinois University.
- Summer '09