Earnings and market based models

In this lesson

1. 0:00 Section three: earnings and market-based models
2. 0:06 Price earnings ratio method explained
3. 0:25 Applying PE ratio to value companies
4. 0:50 PE ratio strengths and weaknesses
5. 1:55 Earnings yield method introduction
6. 2:07 Calculating company value with earnings yield

About this lesson

These methods are essential for valuation questions across CIMA and ACCA qualifications, particularly in papers covering business valuation and financial analysis. We'll walk through the calculations, explore the strengths and weaknesses of each approach, and help you understand why cash flow-based methods sometimes offer a more reliable alternative. The price earnings ratio is the most commonly used market-based valuation technique. You calculate it by dividing share price by earnings per share, then apply a proxy company's PE ratio to your target company's earnings to estimate its value. For whole company valuations, you'll apply the ratio to total earnings after interest and tax. While this method is quick, easy to calculate, and can reflect future earnings potential, it has notable drawbacks: it relies on accounting profits rather than cash flows, accounting figures can be manipulated and contain estimates, and finding a truly comparable listed company can be difficult—making this method less practical for unlisted companies. The earnings yield method works on similar principles but is less commonly used. You calculate earnings yield as earnings divided by market value of shares, then apply a proxy company's ratio to your target company. To value a single share, divide earnings per share by the earnings yield; to value the whole company, divide total earnings by the earnings yield. Understanding both methods gives you flexibility in your valuation toolkit and helps you choose the most appropriate technique depending on the information available and the company you're analysing.

Duration: 3m