Three car companies battling it out, which one would reign supreme?

Inspired by one of my favorite Youtube channels called Worth It by BuzzFeed, we are introducing a new series. Every week, we will evaluate three companies at three drastically different price points for a chance to win a spot on our watchlist and ultimately finding a way into our long-term portfolios.

Today is the first edition. Three car companies are battling it out. Let's see which one would reign supreme? Let us know through email or on Twitter or Facebook how you like it and send us any thoughts and ideas you have for the future episodes. With that, let's get to know today's contestants:

Before getting started, let me explain something, especially if you are new to investing. We are using price to earnings (P/E) ratio to identify the price point of each stock. If you need to learn a bit more about the price to earnings ratio, scroll all the way down and read the 'How To Invest' section. Also, remember that all numbers stated are based on the last available information on 8/17/2018. If you are reading or watching this episode at a later date, the information might be drastically different. Be smart and check your numbers.

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$ Volkswagen (Price to Earnings ratio: 6.1)

Who can forget the Volkswagen fiasco! In 2015, the fact that Volkswagen was cheating US automobile emissions tests was shocking. The value of the company fell drastically then. Now, 3 years after the incident, the company is reviving its operations and building its value. If you had to think about what fiasco I am talking about, it's a sign that the management's TOGETHER – Strategy 2025, through which the company is improving its operations and working on building trust, is working. As you can see on the company's Stock Card, operationally, Volkswagen shows a few signs of weakness. While it has a positive sales growth and earnings per share, the company is struggling with cash, and free cash flow is on the decline. Despite all that, Volkswagen is still the largest car manufacturer in the world that can be bought on the cheap!

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$$ Geely Automobile Holdings (Price to Earnings ratio: 14.8)

Alright, from the most well-known car brand in the world to arguably the least (at least in the United States). You can pick up some shares of Geely at twice the rate of Volkswagen, but still cheaper than the average price to earnings ratio of the S&P 500 which is around 23.8. If you don't know the company, let me have the pleasure of making an intro. Geely Automobile is a Chinese car manufacturer that is profitable, generates free cash flow, has no long-term debt, and operates in the emerging markets! Isn't that what Ford and GM dream of becoming? While the auto industry is competitive, and even in the Chinese market there are several competitors, Geely is a market player not to be missed. The joint-venture with Volvo to sell electric vehicles through a subscription model and part ownership of car manufacturers in the Malaysian market are some of the indicators of the company's long-term success. The stock has recently been on a decline, and hence you see its year-to-date return is dismal, mostly due to the tariff wars and not due to the company's operations.

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$$$ Ferrari (Price to Earnings ratio: 32.8)

And now, ladies and gentlemen, put on your tuxedos and gowns, because we are getting fancy here. This car manufacturer's stock is as high roller as its product. At 32.8 price to earnings ratio, Ferrari's stock is one of the most expensive car company stocks I have come across recently. Is it worth it though? The company spends $1.15 billion to generate $4.01 billion in revenue and $0.34 billion in free cash flow. So far, so good! But, the rosy picture stops here. We are worried about Ferrari. A recent IPO with a vast amount of long-term debt, in a nice-to-have / luxury market. Unless Ferrari shows several quarters of free cash flow, manages its debt, and continues to grow much faster than the market, it's not difficult to say Ciao Bella to Ferrari!

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Which is our watchlist-worthy pick?

Alright, fellow investors! There you have it. Three car manufacturers' stocks at three very different price to earnings ratios. Which one is finding its way to my personal watchlist? Geely (Ticker: GELYF) seems like a great long-term investment, but North American investors need to review the fees that they have to pay and the tax implications of buying a stock that is not directly listed on an American stock exchange. And you can only invest in the company using an over-the-counter stock exchange. That's extra fees and has tax implications. Ferrari (Ticker: RACE) is making me feel fancy, and has shown a few signs of strength since its IPO. However, I usually have an allergic reaction to recent IPOs with a lot of debt. In the end, the watchlist-worthy winner for me is "Volkswagen AG (Ticker: VLKAF)."

If you are a premium member, log in to read about Stock Card team's final decision. For the rest of our community, hope you enjoyed this episode. Write back to me, or share your thoughts on our Facebook Group and let your fellow investors know which one is your watchlist-worthy winner.

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What is price to earnings ratio (P/E), and why it matters?

Per investor.gov, a company's P/E ratio is a way of gauging whether the stock price is higher or lower compared to the past or to other companies. The ratio is calculated by dividing the current stock price by the current earnings per share. Earnings per share are calculated by dividing the earnings for the past 12 months by the number of common shares outstanding. 

You can have a stock that is being traded at thousands of dollars per share, but it is still considered cheap because it has a low price to earnings ratio. In a way, it doesn't matter what the actual stock price is. What matters is how much it costs you to own that share per every dollar of profit (earnings). It's counter-intuitive. We think of the price of things in terms of their unit. Price of a pair of shoes, or pint of cold beer. But, when it comes to stocks, the unit is not the actual share, but every unit of the earnings the company makes.