9 – L1 07 Ratios V2

So, how do we define whether a company is growth or value? We can look at valuation metrics such as price to earnings ratio, price to sales ratio, and price to book ratio. Then, within a list of companies in an index, we can rank these stocks by these metrics and say that a stock is more on one end of the spectrum relative to the other stocks. The price to earnings ratio, is the stock price divided by the company’s earnings per share over the past four quarters. The price to sales ratio, is the stock price divided by the sales per share over the past four quarters. The price to book ratio, is the stock price divided by the book value per share. The book value is the company’s accounting value which is assets minus liabilities. The book value differs from the market value, which we’ve been referring to as the market capitalization, which varies as the stock price changes. Growth stocks tend to have high price to earnings, price to sales and price to book ratios. Conversely, value stocks tend to have lower price to Earnings, price to sales, and price to book ratios. Note that these ratios tend to vary by sector and industry. Generally speaking, software and biotechnology stocks have higher PE ratios, while agriculture and construction companies tend to have lower PE ratios.

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