The most misused and least understood ratio is the Price Earning ratio or the P E Ratio….Almost everybody who ‘invests’ talks about P/E ratio. I am sure there are many people who do not understand the full form but use it nevertheless.
Well when a company earns Rs. 20 as its annual earnings, and is quoting in the markets at Rs. 600, it is said to have a P/E ratio of : 600/ 20 = 30.
The p/e ratio is the ‘discounting’ factor or the no. of years ‘purchase’ value of a share. Thus P/e ratio of ‘A’ Ltd is 30 – which means JUST on the basis of running the company at the same speed, it will take 30 years to recover the cost of the ‘purchase price’.
The other way of looking at it is to see at what rate will the company grow over the next few years – whether the core growth will match the markets expectation of a 30% growth.
Having said all this, when a company is respected by the market, it gets a good p/e ratio. I am not even getting into whether it is justified, because that will be done later on. The Tata group gets a good p/e ratio amongst Indian corporates – and is thought to be well managed. Similarly L&T, Hdfc, Hdfc Bank, Sundaram Finance, Asian Paints, and another bunch of Indian companies do get a good price earning ratio. The other way to say this is to say ‘these shares are well discounted. Not sure why but generally companies that are more visible gets discounted better…
The MNCs get a discounting far better than the Indian companies – so HUL, Colgate, ITC (Omg do I need to explain or defend this?), Nestle, Cummins, ….get a better discounting. These are all companies with ‘foreign’ management and Indian executives…
It is said that they are honest management.
The ‘so called’ honest management of Hul, Colgate, Nestle, ….have no qualms about ripping the customer apart. For all these companies the margins are TERRIBLY high. The fact that they share it with you cannot be THE reason why this becomes a good company. Now this high margin is not available to the other manufacturers for whatever reasons!
So the parent says ‘You need to pay us more because you are using our brand name’. Really? who spent on making the brand more popular? The Indian subsidiary which had a huge advertising budget…
So we are NOW paying a price for a product which is OURS ANYWAY!!
The other way to look at it is to say at least they are being open about it, unlike the Indian managements….
In oe case
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