P/S = Market price of common stock / Sales per share
Sales per share equals net annual sales (or revenues) divided by the number of common shares outstanding.
Many bargain hunting investors look for stocks with P/S ratios of 2.0 or less.
They believe that these securities offer the most potential for future price appreciation.
Very low P/S multiples of 1.0 or less are especially attractive
Especially attractive to these investors are very low P/S multiples of 1.0 or less.
Think about it: With P/S ratio of, say, 0/9, you can buy $1 in sales for only 90 cents!
So long as the company isn't a basket case, such low P/S multiples may well be worth pursuing.
High P/S aren't necessarily bad.
While the emphasis may be on low multiples, high P/S ratios aren't necessarily bad.
To determine if a high multiple - more than 3.0 or 4.0, for example - is justified, look at the company's net profit margin.
Companies that can consistently generate high net profit margins often have high P/S ratios.
Valuation rule to remember:
High profit margins should go hand in hand with high P/S multiples.
That make sense because a company with a high profit margin brings more of its sales down to the bottom line in the form of profits.