Justified P/B multiple multiple

kamara5

Hi, on the justified P/B multiple, can someone please explain how E = B X ROE? Does B stand for book value?
How does the justified P/B ratio = (ROE - g) / (r-g) ?

Thanks!

genuinecfa

yes, the key assumption is perpetual constant growth g = b*ROE

meghanjackson

maratikus Wrote:
-------------------------------------------------------
> good explanation, disptra.
>
> another formula that is helpful is
>
> P/B = (ROE-g)/(r-g) = (ROE-r+r-g)/(r-g) = 1 +
> (ROE-r)/(r-g)
>
> P/B > 1 if ROE > r

Nice. This proves when there is dividend RI model and GGM model are same.

It seems the key assumption to make these 2 equal is g = b * ROE, everything else is by definition.

CFA4Techie

good explanation, disptra.

another formula that is helpful is

P/B = (ROE-g)/(r-g) = (ROE-r+r-g)/(r-g) = 1 + (ROE-r)/(r-g)

P/B > 1 if ROE > r

ohai

I will put one here as a practice. Hope it is all good.
P0 = (V1)/r-g;

P0/B0 = V1/B0/r-g plug in B0 = E1/ROE,
p0/B0 = (V1 / E1) *ROE/r-g = (1-b) * ROE/r-g = ROE-g/r-g

yuoska

Thanks everyone. I've been relying mostly on Schweser books, which have been helpful, but for a deeper understanding I should def. be looking at the CFA books.

yospaghetti

Yes.
All of P/E, P/B, P/S formular can be derived from GGM. You need to plug in g = ROE * b, and E = B X ROE to GGM model. I think it is in the CFAI book as previous poster said.

Viceroy

good catch dispatra...

g=ROE x b where b = retention rate...

defour44

B should be book value in that formular.

joehogue

Don't have the answer in front of me, but if you look at the CFAI text in the footnotes it shows the transformation of the Gordon Growth to P/B.