This is where Excel comes in. The first step is to pick around 10 companies from the same industry. It is very important they are all from the same industry because many factors must be the same. Within an industry, most of the companies prices are influenced by the same factors, so it is easier to determine which prices are to high, and which are to low. The one factor that can change the price of the stock differently for each company is the amount of debt a company chooses to incurre.
Companies can raise money by issuing new stock, or debt.
Debt is more risky, but it prevents diversification of ownership. Because debt is more risky, the stock prices should be lower because the risk causes to required return to be greater. This will be the main factor to look at when determining which company is overvalued and which is undervalued. Each company has a different debt level along with a different level for all operations, so one needs to find a ratio that can be related to each other. The ratio that is used to relate company s debt together is the asset to equity ratio.