No. of Recommendations: 26
I wonder if the equity risk premium has changed because of this? People are more comfortable with stocks so perhaps they are willing to accept higher multiples.There are plenty of industrial companies you can find today at low earnings multiples, just like you'd find in the old days. Here are a few:
Company P/E Ratio
AT&T 6.8
Altria 8.2
Verizon 8.0
Exxon 9.6
Bristol-Myers 12.7
Pfizer 15.4
They pay some big dividends, too.
The high earnings multiples you're referring to are being given to the software-driven megacaps like Microsoft, Apple, Google and Amazon that have created massive, global platforms, from which they are generating billions in revenue at fat gross margins that the industrials can only dream of. Those are a whole different ball game. They're
not being given higher multiples because investors are comfortable that the "Fed has their back".
The higher P/E ratios for software companies compared to industrial companies can be attributed to several key factors:
Growth Potential:Software companies generally have much higher growth potential than industrial companies. Their products and services can be easily scaled up and replicated at minimal cost, and they can reach a global audience through the internet. This potential for exponential growth makes investors willing to pay a premium for their shares, reflected in the higher P/E ratio.
Industrial companies, on the other hand, are often mature businesses with limited growth prospects. Their products may be expensive to manufacture and distribute, and they may face intense competition in established markets. This translates to slower earnings growth and a lower P/E ratio.
Intangible Assets:Software companies' value is driven largely by intangible assets like intellectual property, brand recognition, and customer loyalty. These assets are difficult to quantify but can be extremely valuable, particularly in a knowledge-based economy. Investors recognize this value by assigning a higher premium to the stock price, contributing to the higher P/E ratio.
Industrial companies, in contrast, rely more on tangible assets like factories, equipment, and inventory. While these assets can be valuable, they are easier to depreciate and replicate, leading to a lower perceived value per share and a lower P/E ratio.
Market Sentiment:Tech stocks, including software companies, are often popular investments during periods of optimism and risk tolerance in the market. This can lead to investors being willing to pay higher prices for these stocks, further inflating their P/E ratios.
Industrial stocks may be viewed as safer investments during economic downturns or periods of market uncertainty. However, this can also lead to lower valuations and P/E ratios as investors prioritize stability over growth.
Accounting Differences:Certain accounting practices specific to the software industry can also contribute to higher P/E ratios. For example, research and development (R&D) expenses for software companies are often treated as investments rather than expenses, which can artificially inflate earnings per share and further boost the P/E ratio.
Industrial companies may have higher depreciation expenses due to their reliance on tangible assets. This can lower their reported earnings and contribute to a lower P/E ratio.
It's important to remember that a higher P/E ratio doesn't necessarily mean a stock is overvalued or undervalued. It simply indicates that investors are expecting higher future growth for software companies compared to industrial companies. Carefully analyzing the fundamentals of each company and comparing P/E ratios within respective industries is crucial before making investment decisions.
