Select three listed companies and calculate their P/B ratios (using financial media information). What do these ratios tell you about each firm? Of the firms you selected, which one does the share market think is likely to generate the highest expected future Abnormal earnings? Explain your reasons for thinking this?
Refer to Table 6.1. Look at the levered P/B ratios for a firm with FLEV of 2.0 times (the bottom row of Table 6.1). A firm with an unlevered P/B ratio of 1.2 times and FLEV of 2.0 times has a levered P/B ratio of 1.6 times (that is, the firm’s levered P/B ratio is one-third greater that its unlevered P/B ratio). A firm with an unlevered P/B ratio of 2.0 times and FLEV of 2.0 times has a levered P/B ratio of 4.0 times (that is, the firm’s levered P/B ratio is two times greater than its unlevered P/B ratio). Why should firms with a larger difference between the market value and the book value of their operations have levered P/B ratios (that is, V0E/BV0) that are more affected by FLEV (NFO/ BV0) than those of firms with a smaller difference between the market value and the book value of their operations?
In our simplified illustration of Ryman Healthcare, we changed the financial leverage of Ryman Healthcare by increasing the borrowing by $828 million and repurchasing 100 million of its shares at $8.28 per share. If Ryman Healthcare had been able to acquire its shares at $7.80 per share, would the firm be able to ‘add value’ by changing its leverage? If so, to whom would the firm be adding value? Where would the value come from? Would the value have been ‘created’ by giving more to real human beings (for example, customers) than is being taken from other real human beings (for example, suppliers) or is it simply being transferred, or appropriated, from some human beings to other human beings? Does it matter to you either way? … Really? Discuss the issues that such choices might involve for Ryman Healthcare’s directors and senior management. Given value is inherently subjective, what implications are there for Ryman Healthcare’s directors and senior management in that no-one is ‘forcing’ equity investors to sell their shares to the firm at $7.80 (or, for that matter, at $8.28).