How To Calculate Price To Sales Ratio

How To Calculate Price To Sales Ratio

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How to calculate price to sales ratio looks a little tricky question but once we understand this concept it is quite simple. The price to sales ratio also known as the P/S ratio is a valuation ratio that is used to determine how much investors are willing to pay per dollar of sales for a stock. The ratio can be calculated by using market cap and revenue.

How To Calculate Price To Sales Ratio

How to calculate price to sales ratio –

The price to sales ratio can be calculated by dividing market capitalization by revenue or sales. It can be also calculated by dividing market value per share by sales per share. Market capitalization can be calculated by multiplying share price and total outstanding shares and Revenue is simply the total sales of the company. This ratio is used to determine the growth stocks. It is also used to analyze the companies which are not profitable.

Price To Sales Ratio Definition –

The price to sales ratio can be defined as the ratio of market cap to revenue or sales. It compares the stock price per share to revenue per share. The ratio simply tells us how much the stock price is multiple of sales. The ratio shows us how much investors are willing to pay for a dollar of sales generated by a company. The price to sales ratio varies from industry to industry. This ratio is useful in the case of the non-profitable companies because we can’t calculate the price-to-earnings ratio for such companies so the best option to analyze such companies are price to sales ratio. The definition itself tells us how to calculate price to sales ratio.

Price To Sales Ratio Formula –

Price to Sales ratio = Market Capitalization / Revenue or Sales

OR

Price to Sales ratio = Market Price Per Share / Sales Per Share

Price To Sales Ratio Example –

Let’s take an example to understand how to calculate price to sales ratio,

ParticularCompany ACompany B
Market Capitalization200400
Revenue or Sales250300
Price To Sales Ratio0.81.33

First we will do calculations for company A,

Market Cap of company A = 200

Revenue or Sales of company A = 250

Price to Sales Ratio = Market cap / Revenue or Sales

Price to Sales Ratio = 200 / 250

Price to Sales Ratio of company A = 0.8

Now let’s discuss an example of company B,

Market Cap of company B = 400

Revenue or Sales of company B = 300

Price to Sales Ratio = Market cap / Revenue or Sales

Price to Sales Ratio = 400 / 300

Price to Sales Ratio of company B = 1.33

How to calculate price to sales ratio

Price To Sales Ratio Meaning –

From the above example, we have understood how to calculate price to sales ratio of any company. The P/S ratio of company A is 0.8 and company B is 1.33. Now from the ratio, we can say that company A’s market cap is 0.8 times the revenue, and company B’s market cap is 1.33 times the revenue. So we can easily conclude that company A available at a good price as compared to company B. It means investment in company A is going to be a good investment.

The problem with this ratio is that it doesn’t include debt, so it does not give us a clear picture of the company. If the company is using high debt for high revenue, then we can’t find out this using this ratio. If we have to consider debt then we can use enterprise value instead of market cap. As we know this ratio varies from industry to industry, it can be different for the IT industry and manufacturing industry.

We can use this ratio to identify good investment opportunities. let’s take the example of company A which has a ratio of 0.8. If the industry average ratio is 2, and company A has ratio of 0.8 that means company A has stong growth potential. So we can choose company A for investment. We also need to check the reasons behind the low P/S ratio before investment.

Key Takeaways from P/S ratio –

  1. We have learned how to calculate price to sales ratio.
  2. The P/S ratio can be defined as the ratio of market cap to revenue or sales.
  3. The P/S ratio shows us how much investors are willing to pay for a dollar of sales generated by a company.
  4. The ratio shows how much the stock price is multiple of sales.
  5. The P/S ratio is used to analyze non-profitable companies
  6. The P/S ratio is used to determine growth stocks.
  7. The P/S ratio doesn’t include debt.

To understand how to calculate price to sales ratio, we need market cap and revenue. Click on the link of market cap and revenue.

Now I hope the concept is clear and there is no doubt about how to calculate price to sales ratio.

Also Check –

  1. Market Cap
  2. Revenue
  3. Price to Sales Ratio

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