Question

Instructor - Lead Question

You are considering investing in one of two companies. Company A has earning per share of $5 and a market price of $40. Company B has earnings per share of $12 and a market price of $120. Based on that information alone, which company should you invest in? Explain your answer, including what ratio you used to inform your investment decision. Do you think that you have reviewed sufficient information to make your decision? What other information or ratios would be helpful in deciding which company to invest in?

Answer 1

Based on the given information, the only criteria based upon which a decision could be made is Price Earnings Ratio(P/E ratio)
P/E ratio of Company A =$40 / $5 =8 times
P/E ratio of Company B =$120 / $12 =10 times
So based on P/E ratio the investment should be made on Company as its P/E ratio is less than Company B
No, the above data is not sufficient to arrive at a decision. The other ratios which should be used are Current Ratio, Return on Equity
Debt equity ratio, Interest coverage ratio and the cash flow statement is also an important informatiion which needs to be reviewed before investing