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Basic Question 2 of 2
Which of the following statements is the LEAST ACCURATE with respect to the rationales and drawbacks of using the price to cash flow (P/CF) ratio for valuation purposes?
B. Cash flow is much less subject to manipulation than earnings, thus allowing for a more sound comparison of P/CF among various firms. The P/CF ratio neutralizes any quality of earnings differences which may exist among firms.
C. Even when earnings are negative, free cash flow measures usually are positive, thus allowing a more frequent use of P/CF.
A. If the definition of cash flow is simply net income plus any non-cash charges, then this metric may be influenced by accounting options chosen.
B. Cash flow is much less subject to manipulation than earnings, thus allowing for a more sound comparison of P/CF among various firms. The P/CF ratio neutralizes any quality of earnings differences which may exist among firms.
C. Even when earnings are negative, free cash flow measures usually are positive, thus allowing a more frequent use of P/CF.
User Contributed Comments 3
| User | Comment |
|---|---|
| 2014 | In FRA, we learned it is myth that Cashflow are not subject to manipulation |
| stevo | I agree, I would have thought that B would be the least accurate as cash flow can be manipulated by accounting options chosen. I guess because B stipulates that it is "much less" and does not rule out the possibility of manipulation. |
| MathLoser | I haven't seen any fin statement that has negative Net Income but positive free cash flow. |
I used your notes and passed ... highly recommended!
Lauren
Learning Outcome Statements
calculate and interpret alternative price multiples and dividend yield;
calculate and interpret underlying earnings, explain methods of normalizing earnings per share (EPS), and calculate normalized EPS;
explain and justify the use of earnings yield (E/P);
describe fundamental factors that influence alternative price multiples and dividend yield;
calculate and interpret the justified price-to-earnings ratio (P/E), price-to-book ratio (P/B), and price-to-sales ratio (P/S) for a stock, based on forecasted fundamentals;
calculate and interpret a predicted P/E, given a cross-sectional regression on fundamentals, and explain limitations to the cross-sectional regression methodology;
evaluate a stock by the method of comparables and explain the importance of fundamentals in using the method of comparables;
calculate and interpret the P/E-to-growth ratio (PEG) and explain its use in relative valuation;
calculate and explain the use of price multiples in determining terminal value in a multistage discounted cash flow (DCF) model;
explain alternative definitions of cash flow used in price and enterprise value (EV) multiples and describe limitations of each definition;
calculate and interpret EV multiples and evaluate the use of EV/EBITDA;
CFA® 2025 Level II Curriculum, Volume 4, Module 23.