1. Price-to-Earnings Ratio
While the price-to-earnings ratio (also known as the P/E ratio or earnings multiple) is likely one of the best-known fundamental ratios, it’s also one of the
most valuable. The P/E ratio divides a stock’s share price by its earnings per share to come up with a value that represents how much investors are willing to shell out for each dollar of a company’s earnings.
The P/E ratio is important because it provid
es a measuring stick to compare valuations across companies. A stock with a lower P/E ratio costs less per share for the same level of financial performance than one with a higher P/E. What that essentially means is that low P/E is the way to go.
But one place where the P/E ratio isn’t as valuable is when you’re comparing companies across different industries.
2. Price-to-Book Ratio
Knowing how a company finances its assets is essential for any investor – especially if you’re on the prowl for the next big value stock. That’s where the debt/equity ratio comes in. As with the P/E ratio, this ratio, which indicates what proportion of financing a company has received from debt (like loans or bonds) and equity (like the issuance of shares of stock), can vary from industry to industry.
4. Free Cash Flow
While many investors don’t actually know it, a company’s earnings almost never equal the amount of cash it brings in. That’s because companies report their financials using GAAP orIFRS accounting principles, not the balance of the corporate checking account. So while a company could be reporting a huge profit for its latest quarter, the corporate coffers could be bare.
Free cash flow solves this problem. It tells an investor how much actual cash a company is left with after any capital investments. Generally speaking, it’s a good idea to shoot for positive free cash flow. As with the debt-equity ratio, this metric is all the more significant when times are tough.
The price/earnings to growth ratio (or PEG Ratio), is a modified version of the P/E ratio that also takes earnings growth into account. Looking for stocks based on their PEG ratios can be a good way to find companies that are undervalued but growing, and could gain attention in upcoming quarters. Like the P/E ratio, this metric varies from industry to industry.