Are you looking to study equity multiples and their types? AAMcourses is here for you. In this article, we will discuss what equity multiples are and what are its types.
Beforehand, let’s clear up some basics.
What is Equity Value?
Equity value is the value of the firm’s equity in the market. A firm’s equity value can be calculated by dividing the market value per share by the total number of outstanding shares. Outstanding shares refer to all the shares that are held by the firm’s investors.
Equity Value = Market Value Per Share / Total Outstanding Shares
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What are Equity Multiples?
Equity multiples are one of the three ways to evaluate a firm’s value. Equity multiples are a financial measurement tool. This method is also called the multiples analysis. Equity Multiples are used by investors when they are planning on investing in a firm.
Types of Equity Multiples
Price to Earning Ratio (P/E Ratio)
The P/E ratio represents the relation between the firm’s stock price and the EPS – Earning Per Share. This method of equity multiples helps the investor to understand the value of the firm and its stock. The P/E ratio is ultimately the guide for understanding return on investment.
The formula for Calculating the P/E ratio is given below.
- Price to Earning Ratio = Share Price / Earning Per Share
Price to Book Value Ratio (P/BV Ratio)
The P/BV ratio studies the relation between the market value of the firm’s stock and its book value. It is also known as the Market to Book Value Ratio.
The market value is the current value of the stock in the share market. The book value of the stock is the real/actual value of the firm based on its financial statement.
In other words, the P/BV ratio compares the firm’s net assets to the sale prices of its stocks. The formula for calculating the P/BV is given below.
- Price to Book Value Ratio = Total Assets – Intangible Assets – Total Liabilities / Number of Outstanding Shares
Price to Cash Flow Ratio (P/CF Ratio)
The next of the 5 Equity Multiples is the Price to Cash Flow Ratio.
The P/CF ratio compares the firm’s stock price to its operating cash flow produced. The P/CF ratio does not consider the impact of non-cash items like depreciation, which makes the metric immune to malpractices.
The P/CF ratio is used to analyze the market value of the firm. It helps pinpoint whether the firm’s stocks are undervalued or overvalued. The formula for P/CF is given below.
- Price to Cash Flow Ratio = Share Price / Operating Cash Flow Produced
A low P/CF ratio indicates that the stocks of the firm are undervalued. A high P/CF ratio suggests that the stocks of the firm are overvalued.
Price/Earning to Growth Ratio (PEG)
The price/Earning to Growth ratio is a tool that helps in evaluating the accuracy of the firm’s stock value based on the current market and future potential. The PEG also helps the stockholders to investigate whether the stock prices are undervalued or overvalued.
In PEG, the PE ratio is calculated, and the result is divided by the company’s growth rate. A low ratio indicates undervalued stocks, and a high ratio indicates overvalued stock prices.
The formula for PEG is given below.
- Price/Earning to Growth Ratio = PE ratio / EPS growth
Price to Sales Ratio (P/S Ratio)
The Price to Sales ratio evaluates the firm’s value against the total sales generated. A low P/S ratio indicates an undervalued share and vice versa. The P/S ratio can be helpful in evaluating firms that have yet to earn profit from operating income.
The formula for the P/S ratio is mentioned below :
- Price to Sales Ratio = Closing price of the shares/ Revenue per share
Dividend Yield Ratio
The Dividend Yield Ratio evaluates the relationship between the firms’ current dividend rates and the firm’s current stock price. It helps investors to have an idea about how much dividend they should be expecting from the firm. Usually, investors expect 3%-4% earnings from dividends.
- Dividend Yield Ratio = Annual Dividends Per Share / Market Price Per Share
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FAQs
What are equity multiples?
Equity multiples are a financial measurement tool. This method is also called multiples analysis. Equity multiples are one of the three ways to evaluate a firm’s value. Equity Multiples are used by investors when they are planning on investing in a firm.
What are the 6 types of equity multiples used for valuation?
Price to Earning (P/E ratio)
Price to Book Value (P/BV)
Price to Cash Flow (P/CF)
Price/Earning to Growth (PEG)
Price to Sales (P/S)
Dividend Yield
Closing Statement
Equity multiples are financial tools that help in company valuation. All the 6 types of Equity Multiples help in evaluating the firm in a more detailed way. It allows investors to make an investment decision regarding the firm based on their objectives.
I hope this article about equity multiples and their types is informative. Let me know in the comment box if you have any doubts or suggestions.