PE Multiples Are Not Valuation, They Are Shorthand: Mauboussin

Price-earnings multiples (PE multiples) are the most commonly used tool for evaluating a stock’s future prospects, but according to Credit Suisse analysts Michael Mauboussin and Dan Callahan, few have a solid grasp on what it means.

“The sloppy use of multiples is almost everywhere you look,” write Mauboussin and Callahan. “PE multiples are widespread in use yet remarkably poorly understood.”

Valuation can be broken down into multiple components

They argue that company valuations are best understood when broken down into two distinct pieces: steady-state value and future value creation. Steady-state value is fairly intuitive, measuring net profits against the cost capital, plus any cash lying around. Future value creation is more complicated. While most investors think in terms of growth, the...