Gill, Madura. Personal Finance, 4th Canadian Edition 2019. p 349.

  1. Which of the following is not a limitation of the P/E method?

a. Forecasting earnings is difficult.
b. It is subject to error if it is based on an overestimate of revenues.
c. It is difficult to determine the proper multiple that should be used to value a stock.
d. The results will vary depending on the firms that are selected to derive a mean industry ratio.

The answer key on p 519 says b. Why? If revenues are over-estimated (and no other accounting variables are), wouldn't earnings be over-estimated too?

  • Did you read the part of the chapter where the P/E method is described? – mhoran_psprep Aug 14 at 9:49
  • @mhoran_psprep Yes. It doesn't talka bout b. – Pamela Lee Aug 15 at 3:52

P/E is price to earnings ratio. Revenue doesn't have anything to do with earnings (except to provide a cap).

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