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Why Price to Sale ratio is the one of the best valuation ratio for finding great stocks.

Updated: Nov 26


Table of contents

  1. Benefits of Price to Sale ratio

  2. Other popular valuation ratios, and why they may not be as optimal compared to PS ratio.

  3. Price to Earnings (PE ratio)

  4. Price/earnings to growth ratio (PEG ratio)

  5. Price to Book (PB ratio)

  6. Discounted Cash Flow model (DCF)

  7. Where to obtain PS ratios for companies?



Disclaimer: This communication is provided for information purposes only and is not intended as a recommendation or a solicitation to buy, sell or hold any investment product. Readers are solely responsible for their own investment decisions.

 

After understanding the importance of valuation ratios from this article.

This article aims to talk more about Price to sale ratio and how it fares amongst the other valuation ratios.



Benefits of Price to Sale ratio:

  1. It is a simple and easy-to-calculate ratio. The P/S ratio is calculated by dividing the company's stock price by its sales per share. This makes it a relatively easy ratio to understand and calculate, even for investors who are new to stock market analysis.

  2. It can be used to compare companies of different sizes and industries. The P/S ratio is a valuation metric that can be used to compare companies of different sizes and industries. This is because the P/S ratio does not take into account accounting factors such as earnings or debt.

  3. It can be used to identify growth stocks. Useful tool for identifying growth stocks, especially those that are not yet profitable, because early stage companies may focus on customer acquisition strategies which result in high expenses like R&D and marketing.


PS Ratio formula =

  • Total Revenue / Market Cap or

  • Revenue per share / Share price

  • (Revenue / Shares outstanding) / Share price


Sales (topline) figures are more straight forward and difficult to be manipulated.
Sales (topline) figures are more straight forward and difficult to be manipulated.

Other popular valuation ratios, and why they may not be as optimal compared to PS ratio.


Why PS ratio can be better than Price to Earnings (PE ratio)

  • P/S ratio is less affected by accounting practices. The P/S ratio is calculated by dividing the company's stock price by its sales per share. This means that the P/S ratio is not affected by accounting practices such as depreciation and amortisation.

  • P/S ratio is more useful for valuing unprofitable but fast-growing companies. Many growth stocks are unprofitable in their early stages of growth. This is because they are reinvesting their earnings back into the business to fuel growth. The P/S ratio can be used to value unprofitable companies because it does not take into account earnings. The P/E ratio, on the other hand, cannot be used to value unprofitable companies because it requires earnings to be calculated.


PE Ratio formula =

  • Total Earnings / Market Cap or

  • Earnings per share / Share price

  • (Earnings / Shares outstanding) / Share price


Why PS ratio can be better than Price/earnings to growth ratio (PEG ratio)

  • PS ratio is more straightforward to calculate. It simply requires dividing the market capitalization of a company by its sales. PEG ratio, on the other hand, requires calculating the price-to-earnings ratio (PE ratio) and the growth rate of earnings per share (EPS).

  • PS ratio is more comparable across industries. This is because sales are a more common metric than earnings, and they are less likely to be affected by accounting differences. PEG ratio, on the other hand, can be less comparable across industries due to differences in accounting standards and the way earnings are calculated.

  • PS ratio can be more useful for valuing companies with negative earnings. PEG ratio is not a reliable valuation metric for companies with negative earnings, because the growth rate of EPS cannot be accurately calculated. PS ratio, on the other hand, can still be used to value these companies, even if it is not as informative as it would be for companies with positive earnings.

PEG Ratio formula =

  • PE ratio / Annual EPS growth

Why PS ratio can be better than Price to Book (PB ratio)

  • PS ratio is more forward-looking, while PB ratio is more historical. PS ratio takes into account the company's future sales potential, while PB ratio is based on the company's past earnings. This makes PS ratio a more relevant metric for investors who are looking to invest in companies with high growth potential.

  • PS ratio is less distorted by accounting practices. PB ratio can be easily manipulated by companies through accounting techniques such as asset revaluations and goodwill write-offs. PS ratio, on the other hand, is more difficult to manipulate.

  • PS ratio is more relevant for companies in certain industries. For example, PS ratio is a more widely used metric for valuing technology companies, as their assets are often intangible and do not show up on the balance sheet.


P/B Ratio formula =

  • Current market price per share / Book value per share (BVPS)


Why PS ratio can be better than Discounted Cash Flow model (DCF)

  • PS ratio is simpler to calculate. DCF model can be complex and time-consuming to calculate, especially for companies with complex cash flow streams.

  • PS ratio is more forward-looking. DCF model relies on projecting future cash flows, which can be difficult and uncertain. PS ratio, on the other hand, is based on current and future projected sales, which are a more reliable indicator of future performance.

  • PS ratio is more comparable across companies. DCF model can be difficult to compare across companies with different industries, business models, and capital structures. PS ratio, on the other hand, is more comparable across companies, making it easier to identify undervalued stocks.


Where to obtain PS ratio for companies?

  • One of my favourite sites to obtain current & historical PS ratios for companies is https://ycharts.com/.

PS ratio from Ycharts.com
PS ratio from Ycharts.com
  • Otherwise, a simple prompt like on

[Company name] PS ratio


Should you still use other valuation ratios?

  • In short yes, I will also use the other valuation ratios above, especially since they are more popular than PS ratio, hence they will affect the public's sentiments towards the stocks,

  • the majority of the public's opinion still matter a lot in the stock market, since the market functions similar to a voting machine.

  • However, if I were to pick one valuation ratio only, I will still favour PS ratio over the others mentioned above.




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