Explain why valuation comparisons across borders can differ
The idea
Comparing multiples across countries is complicated because differences in multiples may reflect differences in accounting rather than value. IFRS and US GAAP differ in areas such as inventory methods, capitalisation of development costs and revaluation of assets, which affect earnings and book value. Countries also differ in inflation, interest rates, tax, corporate governance, market liquidity and growth prospects, all of which affect required returns and justified multiples. High inflation, for example, tends to depress P/E ratios where companies cannot pass cost increases through. Multiples less exposed to accruals, such as price to cash flow or EV/EBITDA, can reduce the accounting problem. The trap is concluding a foreign share is cheap only because its P/E is below a domestic peer's.
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