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EV/S Ratio

Enterprise Value to Sales Ratio

 

EV/S ratio shows how expensive firm is compared to its sales. This multiple is important when company is unprofitable or profits margins are very low and turnaround is expected in the future.

 

EV/S ratio calculation: 

 

EV/S = (market capitalization + net financial debt* + minority interest + preferred equity) / sales**


* Net financial debt should include all liabilities that could not be assigned to working capital (usually such liabilities pay interests), minus cash and cash equivalents (or other financial assets that aren’t used in activity). 

** Sales are for the last four quarters (or forecasted sales for current or next year).


When calculating EV/S ratio, few aspect are needed attention. Currency of the market capitalization and sales has to be the identical. If results in income statement are provided in thousands or millions, you should adjust calculations to that.  

 

 

EV/S interpretation:

EV/S ratio is not a very informative one alone but may be very useful together with other valuation multiples, as P/E ratio. Especially EV/S helps when company is unprofitable, then this ratio may show the potential of the stock.

 

EV/S ratio mostly varies between 0.5 and 3 depending on industry group and profitability. Of course, the lower this ratio is the better, but only for similar firms. No doubt, if you will find two identical companies, the one that will have lower profit margins will trade at lower EV/S ratio, and this not an advantage.

 

If you believe that profit margins have no reasons for increase in the future, then low EV/S doesn’t mean much, because if profits will sustain low, the stock will keep trading at low EV/S ratio and there will be no good return from investment.

 

If you want to find cheap stocks that would be good investments, you have to calculate more valuation multiples, but you can’t rely on one ratio (EV/S) when making investment decision.

 

 






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