EBIT multiple = EV / EBIT
Earnings Yield of the Enterprise (before tax) EY = EBIT / EV
For example:
EY of A = 11.3%
EY of B = 15.3%
The EY of B at 15.3% is higher than the 11.3% of A, hence, B is a cheaper buy than A.
The EY computation is pre-tax EY and this is good enough for comparison among companies.
For determining if you would like to invest in a stock, use after-tax EY so that you can compare with other alternative investments.
EY (after tax) = (EBIT x (1 - tax rate) / EV
For example:
EY (after tax) of A = 8.5%
EY (after tax) of B = 11.5%
Why is the earnings yield so important?
1. It allows you to see how cheap a stock currently is. Unlike a DCF analysis, calculating a stock's current earnings yield requires no estimates into the future.
2. Using earnings yield as your main valuation tool to compare the relative price-value relationship of companies in the same industry, helps you to see which one is a better buy.. For individual cases, the investor should be happy to invest in a company with normal growth rate of 5% with an after-tax earnings yield of 12%.
How to use EV / EBIT?
1) EV / EBIT as a primary tool to
in addition to the PE ratio.
2) Joel Greenblatt uses for his Magic Formula the Earnings Yield of the enterprise, in conjunction with the Return on Invested Capital (ROIC).
3) Buffett uses this when evaluating a business and has said that he will generally be willing to pay 7 x EV / EBIT for a good business that is growing 8% - 10% per year
4) For cyclical plantation companies which have a lot of debts, it is more appropriate to use EBIT multiple and EV per hectare, rather than basing on PE ratio and market cap per hectare.
Summary
EBIT multiples (EV / EBIT) are better market valuation metrics than PE.
However, both EBIT multiples and PE are all relative and comparative metrics..
It would be better if we can determine the absolute value of a stock, the intrinsic value.
We can then compare the market price with the intrinsic value and determine the margin of safety to give us a better decision making in stock investment.
Reference::
Pages 251 - 252
The Complete VALUE INVESTING Guide that Works! by K C Chong
Earnings Yield of the Enterprise (before tax) EY = EBIT / EV
For example:
EY of A = 11.3%
EY of B = 15.3%
The EY of B at 15.3% is higher than the 11.3% of A, hence, B is a cheaper buy than A.
The EY computation is pre-tax EY and this is good enough for comparison among companies.
For determining if you would like to invest in a stock, use after-tax EY so that you can compare with other alternative investments.
EY (after tax) = (EBIT x (1 - tax rate) / EV
For example:
EY (after tax) of A = 8.5%
EY (after tax) of B = 11.5%
Why is the earnings yield so important?
1. It allows you to see how cheap a stock currently is. Unlike a DCF analysis, calculating a stock's current earnings yield requires no estimates into the future.
2. Using earnings yield as your main valuation tool to compare the relative price-value relationship of companies in the same industry, helps you to see which one is a better buy.. For individual cases, the investor should be happy to invest in a company with normal growth rate of 5% with an after-tax earnings yield of 12%.
How to use EV / EBIT?
1) EV / EBIT as a primary tool to
- evaluate its earnings power and
- to compare it to other companies,
in addition to the PE ratio.
2) Joel Greenblatt uses for his Magic Formula the Earnings Yield of the enterprise, in conjunction with the Return on Invested Capital (ROIC).
3) Buffett uses this when evaluating a business and has said that he will generally be willing to pay 7 x EV / EBIT for a good business that is growing 8% - 10% per year
4) For cyclical plantation companies which have a lot of debts, it is more appropriate to use EBIT multiple and EV per hectare, rather than basing on PE ratio and market cap per hectare.
Summary
EBIT multiples (EV / EBIT) are better market valuation metrics than PE.
However, both EBIT multiples and PE are all relative and comparative metrics..
It would be better if we can determine the absolute value of a stock, the intrinsic value.
We can then compare the market price with the intrinsic value and determine the margin of safety to give us a better decision making in stock investment.
Reference::
Pages 251 - 252
The Complete VALUE INVESTING Guide that Works! by K C Chong
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