E If a firm is expected to have a profit margin of 8 percent

E. If a firm is expected to have a profit margin of 8 percent but trades at a price-to sales ratio of 25, what inferences would you make? F. Should a firm that has higher free cash flows have a higher value?

Solution

8% profit margin states that for every $100 of sales the company is churning out $8 as profit.

However price is sales ratio is much higher at 25%, it suggest that the stock is overvalued.

It is also possible that the market is expecting exceptional sales growth.

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For the second question the answer is not necessarily, or to be exact no.

Free cash flow can be increased by selling the investment made by the company.

A highly profitable and growing firm can have low or negative free cash flow, if it is investing heavily to capitalize on its investment opportunities.

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Hope this answer your query.

Feel free to comment if you need further assistance. J