Microsoft
Valuation metrics
Continuing the stock highlight series and after kicking things off with Apple yesterday, let’s take a look at another classic tech stock, Microsoft:
I covered the metrics on the top part of this chest sheet yesterday, so let’s talk about the four new additions.
Price / Earnings
This is one of the most common valuation metrics. You take the price of a stock and divide it by the earnings per share over the last twelve months. The simple idea is, if you bought the stock, how many years would it take to earn back your initial investment. Obviously, the reality is more complicated than that but what really matters is that you want this metric to be lower rather than higher because it either means a lower price or more earnings.
Price / Sales
Earnings can be sometimes be messy. If you have a company that is losing money because they are in a growth phase or have some kind of extraordinary expense, it can throw the P / E ratio off. An alternative is to use sales, which is essentially revenue, as that tends to be more consistent. Again, lower is better here. You want to pay less for a stock or have a company making more revenue than otherwise.
Price / Book
Book value is basically total assets less total liabilities, though you can do more complicated calculations of it if you want to be fancy. With this ratio, you are comparing a company’s accounting value to its market value. Accountants are usually pretty conservative people unlike those savage stock traders who bid up the price of anything shiny to astronomical levels. So, it’s actually a really interesting comparison to make. Again, lower is better.
P / E / G Ratio
Here’s a crazy one. You take the Price / Earnings ratio and then you divide it by the growth rate of earnings. Once again, lower is better because either you have a low Price / Earnings ratio, which we already know is good, or you have a high growth rate.
These four ratios are a fantastic starting point for valuation. And, tomorrow, we will take a look at even more new additions!