300 CHAPTER 12 GETTING IT APPROVED
Price earning (ratio/
multiple) – PE/PER
Share price
divided by
Earnings per share
The price earnings ratio indicates the number of years’
earnings acquired when you buy one share. It reflects
the market’s expectation of future earnings growth –
and it is a crucial measure of the value of a company
(see Chapter 10). It is the carrot to dangle in front of
investors, because it indicates the way that they will
be able to leverage their share value on the way out.
Dividend cover
(payout ratio when
inverted)
Earnings per share
divided by
Net dividend per share
Dividend cover indicates how many times the
dividend is covered by profits. A high cover (low
payout ratio) suggests that profits are being
reinvested for future growth – and that there is
sufficient margin to ensure that dividends will remain
stable. The opposite suggests that dividends might
disappear in a downturn.
Net asset value
(Ordinary) shareholders’
equity
divided by
Net dividend per share
Net asset value indicates the proportion of the share
price that is represented by assets (albeit at book
value) – the other portion of the price therefore
reflecting expectations about profits. The alternative
is market capitalisation to book value (how much it
would cost you to buy all the
Market to book
(see comments)
Company’s shares – and how much you would get back
if you sold all the assets and settled all liabilities). These
indicators reveal exactly what the market thinks about
the value of the company’s future income stream.
Economic value added (Note: EVA is based on the work of Professors Franco
Modigliani and Merton H. Miller, extended and trade marked by Stern, Stewart & Company; EVA
momentum is a further development by Stewart.)
Indicator Comment
Economic value added
Net operating profit less
taxes less cost of capital.
A measure of value and performance. When
profits exceed the cost of doing business and
the cost of capital, the firm creates wealth for the
shareholders. Here, capital includes cash, inventory
and receivables (working capital), plus equipment,
computers and real estate. The cost of capital is
the rate of return required by the shareholders and
lenders to finance the operations of the business.
EVA momentum
This year’s EVA minus last
year’s EVA all divided by last
year’s sales revenue
A measure of the EVA growth rate, scaled to the
sales size of the business, and therefore directly
comparable across businesses of differing sizes and
in differing industries.