Ask the Fool

QHow can a $10 stock be considered more expensive than a $50 stock? I don’t get it.

— P. L., Watertown, S. D. AIt’s because a stock’s price alone is close to meaningless. To draw useful conclusions, you need to compare it to something else, such as sales, earnings, cash flow, etc.

Imagine shares of two companies, called Joanie and Chachi, each trading for $20 per share. If Joanie’s earnings per share (EPS) for the past 12 months is $1 and Chachi’s is $2, then Joanie’s price-to-earnings ratio (or P/E, representing price divided by EPS) is 20 while Chachi’s is 10.

You’d have to pay $20 for each dollar of Joanie’s earnings, versus just $10 for Chachi’s. Already, Chachi looks cheaper.

For a company’s size, look at its market capitalization, not its stock price. Market cap is the current share price multiplied by the number of shares outstanding, reflecting the total price tag the market is placing on a company right now. If Joanie sports 10 million shares and Chachi has 2 billion, then Joanie’s market cap is $200 million and Chachi’s is $40 billion. Despite the same stock price, Chachi is a much bigger company.

When studying a company, evaluate its quality and how inexpensive its stock may be, looking at debt and cash levels, growth rates of sales and earnings, trends in profit margins and return on equity, and competitive strengths.

QHow can I find out if my company is covered by the Pension Benefit Guaranty Corp. (PBGC)?

— R. G., Tarentum, Pa. AThe PBGC is a federal agency insuring pension benefits in private traditional pension plans (not defined contribution plans, such as 401(k)s). Visit it to learn more at pbgc. gov, or call 800-400-7242. ¦

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