Last week I spoke about the p/e ratio and how it is still relevant in today’s investing world. However, it is important to broaden your arsenal of valuation tools in order to get a broader picture of your stocks’ value. I wanted to bring up a few other ratios that I use in my stock picking and talk about their advantages.
Broaden Your Horizons
The price/sales ratio (p/s) is a good tool to use for companies that have negative earnings. This was a popular one back in the internet bubble era when few had any earnings to speak of. Obviously it is better for a company to have earnings than to post losses, but there are some great investment opportunities available for some younger companies that are currently in the red. The p/s ratio can help you find cheap ones.
Another good advantage of the p/s ratio is that sales are much harder to manipulate than earnings. GAAP allows for a lot of wiggle room in terms of how companies calculate net income and some more aggressive managements take full advantage of that in order to boost reported earnings per share. Entire books have been written about various methods, so all you need to know here is that is quite easy. On the other hand sales are quite straightforward.
The price/book ratio is a Graham and Dodd favorite and is useful for companies that might be liquidating or are distressed. Naturally these kinds of companies wouldn’t have earnings, and book value is a good gauge of what a company might be worth in an acquisition or a break up. Book value is calculated as assets minus liabilities. It is tough to find good companies that are trading below book value, but if you find them it can be quite profitable to pounce on them.
Price/cash flow is a similar ratio that utilizes the all-important level of cash flow. Like sales, cash flow is harder to manipulate than earnings, and is a good barometer for the overall health of the company. No company can operate for too long with negative cash flow, so if this ratio is favorable, it is a good sign that the stock might outperform.
It is important to note that no single ratio or metric will tell the full picture, but the more tools you use, the more likely it is that your stock will check out and chalk up gains for your portfolio.
Some Alternative Ratios to Chew On is an article from: 
