In mid-2012 Abercrombie & Fitch (ANF) had a book equity of $1693 million a price per share of

QUESTION

In mid-2012, Abercrombie & Fitch (ANF) had a book equity of $1693 million, a price per share of $35.48, and 82.55 million shares outstanding. At the same time, The Gap (GPS) had a book equity of $3017 million, a share price of $27.90, and 489.22 million shares outstanding. a. What is the market-to-book ratio of each of these clothing retailers? b. What conclusions can you draw by comparing the two ratios?
Solution: (a) For ANF, Book Value of Equity = $1693 milliom Market price of Equity = $35.48 Number of shares outstanding = 82.55 million Book value of single equity = 1693/82.55 = $20.51 hence, Market-to-book ratio = 35.48/20.51 = 1.73 Again for GPS Book Value of Equity = $3017milliom Market price of Equity = $27.90 Number of shares outstanding = 489.22million Book value of single equity = 3017/489.22 = $6.17 hence, Market-to-book ratio = 27.90/6.17 = 4.52 (b) A company that is performing very well will always be worth more than its book value for its ability to generate earnings and growth. In essence, book value is what would be left over for shareholders if a company closes its operations, pays off its creditors, collects from its debtors, and liquidates itself. Thus P/B ratio is a good matrix to value stocks of companies with large tangible assets in their balance sheets. A lower P/B ratio can mean that the stock is undervalued or something is fundamentally wrong with the company. A company that is performing very

well will always be worth more than its book value for its ability to generate earnings and growth. In essence, book value is what would be left over for shareholders if a company closes its operations, pays off its creditors, collects from its debtors, and liquidates itself. Thus P/B ratio is a good matrix to value stocks of companies with large tangible assets in their balance sheets. A lower P/B ratio can mean that the stock is undervalued or something is fundamentally wrong with the company. In the above calculation, the market-to-book ratio of GPS is more than double of market-to-book ratio of ANF. Therefore, GPS is fundamentally more strong and performing far better than ANF.

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