When a company purchases firms at a lower P/E ratio, what is this practice called?

When a company purchases firms at a lower price-to-earnings (P/E) ratio, this practice is referred to as arbitrage. In the context of acquisitions, arbitrage involves capitalizing on price discrepancies between two markets or firms. In this case, a company may identify that certain firms with lower P/E ratios are undervalued compared to their earnings potential. By acquiring these firms, the purchasing entity can potentially realize financial gains as market perceptions adjust over time, usually leading to an increase in the stock price of those lower P/E firms.

This approach reflects a strategic investment decision where the acquirer seek to leverage the perceived undervaluation of these target firms. The underlying rationale is that once the transaction is completed, the market will correct the disparity and the value of the acquired firm will increase, benefitting the acquiring company.

While other terms like hedging, merger, and consolidation relate to different financial or business strategies, they do not specifically denote the act of purchasing undervalued firms for the purpose of realizing gains from their P/E ratios. Hedge typically refers to strategies employed to minimize risk, merger implies a formal joining of firms, and consolidation refers to combining multiple entities into a single organization. None of these terms capture the specific practice of