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CMA Final · Strategic Financial Management · Equity and Bond Valuation and Evaluation of Performance

A company's shares trade at Rs 150. Earnings per share is Rs 10 and the industry average P/E ratio is 12. According to the P/E approach, the share is:

The share is overvalued by Rs 30. Applying the industry P/E of 12 to earnings of Rs 10 gives a fair value of Rs 120, which is below the market price of Rs 150, so the market price exceeds the estimated value.

  1. AOvervalued by Rs 30Correct
  2. BUndervalued by Rs 30
  3. CFairly valued
  4. DUndervalued by Rs 120

Explanation

Fair value = 12x10 = Rs 120. Market price Rs 150 exceeds this by Rs 30, so the share is overvalued. Undervalued options reverse the comparison.

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