PER vs. SOTP: Comparing Two Corporate Valuation Methods

by Julian

Jan 21, 2025

Introduction: Why Valuation Methods Matter
- The importance of corporate valuation
- How valuation approaches affect stock volatility
PER Method: A Traditional and Widely Used Approach
- Definition and calculation of PER
- Pros and cons of the PER method
SOTP Method: Aggregating Segment-Level Valuations
- Definition and characteristics of SOTP
- Pros and cons of the SOTP approach
Why SOTP Is Trending: Focus on Future Growth Over Current Earnings
- SOTP’s advantages for emerging industries
- SOTP as a better explanation for rising stock prices
Concerns with SOTP: Subjectivity and Overvaluation Risks
- Analyst discretion in segment assumptions
- Case study: Valuing Rivian or Amazon
PER vs. SOTP: Which Method Is More Reliable?
- Comparative analysis of the two methods
- When to use each method
Conclusion: Evolving Valuation Techniques and Investor Implications
- The future of corporate valuation
- What investors should watch out for

1. Introduction: Why Valuation Methods Matter

Valuation methods are essential tools that help investors assess a company’s true worth and determine whether a stock is over- or underpriced. Traditionally, metrics such as the Price-to-Earnings Ratio (PER) and Price-to-Book Ratio (PBR) have dominated the landscape. However, a newer approach—the SOTP (Sum of the Parts) method—is gaining traction.

SOTP is particularly suited to today’s investment environment, where future growth potential often matters more than current profits. While SOTP enables a more granular assessment of diversified businesses, it also introduces analyst subjectivity, raising questions about its reliability. In this article, we compare the PER and SOTP methods and analyze their strengths and weaknesses through real-world U.S. examples.

2. PER Method: A Traditional and Widely Used Approach

The PER method evaluates a company by dividing its share price by its net earnings. This metric tells investors how many dollars they are paying for each dollar of a company’s profits.

Advantages of PER include simplicity, wide applicability, and objectivity—making it a go-to method for companies with stable earnings, such as Coca-Cola or Procter & Gamble.

However, PER has limitations. High-growth companies like Tesla or Snowflake may have low or negative earnings, yet still command high valuations due to anticipated future growth. In such cases, PER fails to explain market behavior effectively.

3. SOTP Method: Aggregating Segment-Level Valuations

The SOTP method breaks down a company into individual segments—such as cloud services, e-commerce, advertising, etc.—assigns value to each, and adds them together to estimate the company’s total value. This is especially effective for diversified tech giants like Amazon or Alphabet (Google), which operate across multiple verticals.

SOTP captures the unique potential of each business unit. For example, Amazon’s AWS (Amazon Web Services) could be valued using tech sector revenue multiples, while its retail segment might be assessed with lower valuation multiples due to lower margins.

4. Why SOTP Is Trending: Focus on Future Growth Over Current Earnings

SOTP is gaining popularity as companies increasingly invest in emerging industries like AI, EVs, cloud infrastructure, and digital advertising. These sectors often lack strong earnings today but are believed to hold massive upside.

Take Tesla, for instance. Its automotive business, energy division, and autonomous driving software each hold different valuation profiles. Using PER would lump them all together, whereas SOTP can separate and properly value each business line—explaining its high market cap more logically.

Similarly, NVIDIA's AI, gaming, and data center divisions each command different growth profiles and margins, making SOTP a useful method for a more accurate valuation.

5. Concerns with SOTP: Subjectivity and Overvaluation Risks

The main criticism of SOTP is the subjectivity it introduces. Analysts must decide on the appropriate multiple for each segment based on expectations about future growth, profitability, and industry conditions. As a result, valuations for the same company can vary wildly.

Take Rivian as an example. Some analysts value its EV manufacturing segment aggressively based on Tesla-like multiples, while others apply more conservative estimates due to its limited production scale and negative earnings. This divergence illustrates how analyst discretion can skew valuations.

Moreover, even loss-making segments can receive high valuations under the banner of "potential." This poses a risk that overvaluation becomes systemic, particularly during bullish market cycles.

6. PER vs. SOTP: Which Method Is More Reliable?

PER and SOTP are tools suited for different contexts:

PER is best for mature companies with consistent earnings (e.g., Johnson & Johnson).
SOTP is better for diversified or high-growth firms with distinct business lines (e.g., Amazon, Alphabet, Tesla).

That said, PER is more objective and less prone to inflated assumptions. SOTP, while more nuanced, is susceptible to bias, and therefore requires caution.

Savvy investors should select the method that fits the company’s structure and industry. For early-stage or innovation-led businesses, SOTP might provide better insight. For stable, earnings-driven firms, PER remains the gold standard.

7. Conclusion: Evolving Valuation Techniques and Investor Implications

As companies increasingly span multiple sectors and investors chase long-term growth, SOTP has emerged as a powerful valuation framework. Still, investors must be aware of its limitations—primarily its dependence on analyst assumptions.

Ultimately, the most accurate valuations often come from combining approaches, cross-checking assumptions, and maintaining a healthy level of skepticism. For long-term investors, understanding both PER and SOTP—and when to use each—is key to making informed, risk-adjusted decisions.