Andi is estimating the P/B multiple of one company. The actual current P/B ratio for the company equals 2.01. He now wants to compare this figure to the P/B multiple justified by fundamentals. He gathered the following data for this analysis:

• ROE = 12%.
• Long-term growth rate = 7.5%.
• Required rate of return = 10%.

Based on the fundamentals, Andi concludes that the company may be currently ______ relative to its underlying fundamentals by ______.

Correct Answer: He can calculate justified P/B multiple like this: P₀ / B₀ = (ROE - g) / (r - g) = (0.12 - 0.075) / (0.1 - 0.075) = 1.8.

The company may be currently overvalued relative to its underlying fundamentals by 2.01/1.8 - 1 = 11.67%.