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"Can ratios help me evaluate stocks? If so, which ones?". The answer is yes! Market value or valuation ratios can help you.

Valuation ratios all consist of two parts: a value measure over a value driver like in the case of the P/E ratio, where price (P) is the value measure, and earnings (E) is the value driver. If a company has a P/E ratio of 10x, then the market price is 10x more than a company's earnings. If a company has a P/E ratio of 20x, then it is selling for 20x its earnings, and is therefore more expensive.

Other commonly used valuation measures replace P and E for other value measures and drivers respectively that are a bit more comprehensive. Three common ratios used by investors and stock pickers are EV/EBITDA, EV/EBIT and EV/Sales. All of the above replace price (which is the value of a business’ equity), with Enterprise Value, which is the value of a business’ equity AND net debt. These ratios take the balance sheet into account, whereas the P/E ratio does not.

​​The lower this multiple is, the cheaper per share. If a company has an EV/EBITDA ratio of 15x (which is in the historical general average range of the S&P 500) then you would have to pay 15 times more than a company’s EBITDA profit to buy it!


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