whose valuation is it anyway?
new entrants to the Indian markets in 2021 are commanding premiums
2021 has been a funny year. at least when it comes to the world of investments. a year that began with trembling fear over how long the pandemic would keep its stranglehold flipped rather quickly into one where global equity markets hit lifetime highs. it also witnessed the rise of cryptocurrencies and their acceptance into the mainstream, along with ‘memecoins’ such as Doge briefly sitting atop a $50 billion valuation.
perhaps it’s no surprise then that Nykaa debuted on the stock market at a price of over 1,600 times what it earns per share. but then again, it wasn’t really a surprise when Paytm hit the lower circuit on its listing day either. so what are these valuations, are they fair, and who determines them?
it’s perhaps best to answer the last of those questions first. valuations are subjective. there is no one or no method by which a fixed valuation can formally be assigned to a business. it is determined by the opinions of investors. when you buy a share in any company, you are placing a bet that it is either fairly valued or undervalued, and that its value will increase. when a venture capitalist or private investor picks up, say, a 10% stake in a startup for X amount, the belief is the value of the startup will increase several times, their investment will automatically gain value.
so is it just a random game of make-believe? well, not exactly. this is where an entry to the public market (listing on a stock exchange) is seen as a real step up for any business that has made it. once listed, its valuation is constantly under scrutiny by millions of investors which decreases the randomness of its valuation. its financial reports and any news linked to it have a crucial impact as well. if a company is consistently increasing its profits, investors are likely to start valuing it higher and higher. if it registers a patent for a breakthrough technology, its valuation is likely to see a spurt.
a standard metric that’s used to measure this valuation of a publicly traded company is the P/E ratio i.e. the price-to-earnings ratio. this is a ratio of the stock’s price per share to how much profit the company actually makes per share. there are many factors influencing this apart from the company’s performance itself. one of them is the industry that it operates in.
that’s why Nazara Technologies, which makes games, and has an annual revenue of $60.5 million currently trades at a P/E ratio of 232, while the Indian Oil Corporation which has an annual revenue of $51 billion trades at a P/E ratio of 4.5.
conventional investing wisdom places an emphasis on value investing. that is, taking the time to go through the financial statements of companies, taking note of their earnings, and comparing them to others in the industry to determine whether they are undervalued or overvalued. but conventional wisdom, it appears, is for conventional investors. the modern investor, of whom there has been a record inflow into the market over the past 18 months or so, appears to have an infinitely larger risk appetite. from Gamestop to Shiba Inu, they appear to care less about the business fundamentals and more about whether it's trending on the internet. or at least that it’s a well known and famous brand.
that appears to be reflected in many new entrants to the Indian markets commanding P/E ratios that the biggest businesses in the world would envy. here are some, alongside their US equivalents.