What is Price to Sales?
The Price to Sales Ratio measures the value of a company in relation to the total amount of annual sales it has recently generated.
How to Calculate the Price to Sales Ratio (Step-by-Step)
Often referred to as the “sales multiple”, the P/S ratio is a valuation multiple based on the market value that investors place on the revenue belonging to a company.
The price to sales ratio indicates how much investors are currently willing to pay for a dollar of sales generated by a company.
In short, the P/S ratio tells us how much value the market places on the sales of a specific company, which is determined by the quality of revenue (i.e. customer type, recurring vs. one-time), as well as expected performance.
Higher P/S ratios can often serve as an indication that the market is currently willing to pay a premium for each dollar of sales.
Learn More → Valuation Multiple
Price to Sales Ratio Formula (P/S)
The price to sales ratio (P/S) can be calculated by dividing the latest closing share price by its sales per share as of the latest reporting period — which is ordinarily the latest fiscal year, or an annualized figure (i.e. trailing twelve months with a stub-period adjustment).
- Price to Sales Ratio (P/S) = Latest Closing Share Price / Revenue Per Share
Another method to calculate the P/S ratio involves dividing the market capitalization (i.e. total equity value) by the total sales of the company.
- Price to Sales Ratio (P/S) = Market Capitalization / Annual Revenue
How to Interpret Price to Sales Ratio (High or Low)
A low price-to-sales ratio relative to industry peers could mean that the shares of the company are currently undervalued.
The standard acceptable range of the P/S ratio varies across industries.
Hence, benchmarking the ratio must be done among similar, comparable companies.
Alternatively, a ratio in excess of its peer group could indicate the target company is overvalued.
The major downside of the price-to-sales ratio that tends to reduce its reliability is that the P/S ratio does NOT factor in the profitability of companies.
While the main advantage of using the P/S ratio is that it can be used to value companies that are yet to be profitable at the operating income (EBIT), EBITDA, or net income line, this fact is also the main drawback.
Since the price-to-sales ratio neglects the current or future earnings of companies, the metric can be misleading for unprofitable companies.
Additionally, the P/S ratio fails to account for the leverage of the company being evaluated – which is why many prefer to use the EV/Revenue multiple.