Whatrelevancedoesthishaveforrelativevaluation?Inmost
relativevaluations,analystscomparetheprice-earningsratios
of firms in a sector, even though these firms have very
differentcashholdings.Theprecedinganalysissuggeststhat
thiscanoftenskewrecommendationstowardoragainstfirms
withlargercashbalances.Inmaturesectors,wheregrowthis
lowormoderate,firmswithlargercashbalanceswilltradeat
higher P/E ratios, not because they are overvalued but
becausecash commandsahighermultipleofearningsthan
operatingassetsdo.Inhigh-growthsectors,firmswithhigher
cashbalanceswilloftentradeatlowerprice-earningsratios,
butthatwillnotmakethembargains.Theonlycaseswhere
cashholdingswillnotmatterisifallfirmsinasectorhave
similarholdings(asapercentofoverallmarketcapitalization)
ortheevenmoreunusualscenariowherecashandoperating
earningscommandthesamemultiple.Thereisaverysimple
solutiontothiscomparisonproblem.AswenotedinChapter
8,wecancomputetheprice-earningsratiosforallfirmsusing
noncash equity and the noncash earnings:
This ratio will not be affected by cash holdings.
Theproblemscreatedbycashholdingsalsospilloverwhen
analystsuseprice-to-bookequityratios.Infact,cashshould
generallytradeatorclosetobookvalue,butoperatingassets
cantradeatprice-to-bookratiosthataresignificantlydifferent
from1.Usingtheexamplefromtheprevioussection(money
amounts in millions of dollars):