Question #1
Reading: Reading 22 Market-Based Valuation - Price and Enterprise Value Multiples
PDF File: Reading 22 Market-Based Valuation - Price and Enterprise Value Multiples.pdf
Page: 1
Status: Incorrect
Correct Answer: A
Your Answer: C
Question
Which of the following statements regarding the P/E to growth (PEG) valuation approach is least accurate? The P/E to growth (PEG) valuation approach assumes that:
Answer Choices:
A. there is a linear relationship between price to earnings (P/E) and growth
B. stocks with higher PEGs are more attractive than stocks with lower PEGs
C. there are no risk differences among stocks
Explanation
The PEG valuation approach implicitly assumes there is a linear relationship between price
to earnings (P/E) and growth, even though there is not a "real world" linear relationship.
The analyst must be cautious when using the PEG ratio for valuation or comparison
purposes especially if the growth rate is very small or very large. If earnings or the growth
rate is negative the PEG ratio is meaningless. The PEG ratio does not adjust for varying
levels of risk among stocks and views stocks with lower PEG ratios to be more attractive
than stocks with higher PEG ratios.