Pay Up, But Don’t Overpay Case Study
Norris D. Howard
University of Maryland Global Campus
FINC 440 6380 Security Analysis and Valuation
Professor Gmitter, Nicole
July 3, 2022
With the past and future success of the Polestar investment committee in mind, it is imperative that every member of the team maintains an objective view as the firm looks to invest in three growth stocks. The investment committee has already screened the three prospective stocks utilizing Polestar’s extensive system and they all made the cut. The analyst addressed the three companies’ operational ability, capital allocation ability, and management integrity. Page Industries, Eicher Motors, and Relaxo Footwear are Polestar Mutual fund investment candidates.
Since the three prospective companies Polestar are looking to invest in are equally good in terms of all the metrics and future prospects, the deciding factor is the three companies current Price-to-Earnings (P/E) ratios. P/E ratio is a metric that is widely used by investors to value a stock and tell an investor if a stock is overvalued, fairly valued, or undervalued within its respective sector and life cycle. However, depending on market conditions, a subjective analyst may be necessary to identify potential investments.
The equity research report contains detailed estimates of the growth rate of the company based on the future prospects of the company and other market conditions. With the current market conditions being optimistic, the three companies high P/E ratios are justified due to their excellent compound annual growth rates (CAGR). To convince the committee, it is important to highlight that Page Industries has a CAGR of 48.84%, Eicher Motors 54.30%, and Relaxo Footwear 64.08%. With that being said, the three firm’s P/E ratios are important as they identify how much an investor needs to invest for every $1 in earnings, however the high P/E values reflects the future growth to come from these firms (Vaughn, 2022).
The investment committee knows that high P/E ratios are paired with overvalued stocks and low P/E ratios with undervalued stocks, but what must be taking in consideration for these three companies is the markets perception of there quality has led to there P/E’s. A metric I need all members of the committee to turn their attention to is the trailing and forward P/E ratios. This is relevant as it shows the previous 12 months P/E ratio (Trailing) and the projected P/E ratio (Forward) (Vaidya, 2022).
Remember, a high P/E forward or trailing does not always mean overvaluation. Our team should invest in these companies regardless of there high P/E ratios. All three have great capital allocation which will help them produce future returns. On a very general basis or when evaluating a value stock, the relationship of lower P/E ratio is ideal when attempting to identify a stock for the next ten years. However, Polestar Mutual funds need growth stocks and Page Industries, Eicher Motors, and Relaxo Footwear meet the mark.
As an analyst for Polestar Mutual funds, analyst must have the ability to find stocks with potential in any market environment. The metric standards and due diligence process set in place by Polestar must be implemented but once all facts are identified, a subjective view is imperative. The potential of investing in these three growth stocks can boost the mutual funds performance due to the creative valuation process. I hope the investment in these firms are considered and routed to the approval level.
Vaidya, D. (2022, June 20). Trailing PE vs forward Pe Ratio. WallStreetMojo. Retrieved July 3, 2022, from https://www.wallstreetmojo.com/trailing-pe-vs-forward-pe/#h-differences-between-trailing-pe-vs-forward-pe-ratio
Vaughn, H. (2022, April 14). What is P/E ratio and why is it important? | nextadvisor with Time. Time. Retrieved July 3, 2022, from https://time.com/nextadvisor/investing/what-is-pe-ratio/#:~:text=WhyIsthePE,itspeerssaysMuoz.