Price-to-Sales Ratio (P/S)

Price-to-sales measures how much investors pay per dollar of revenue. Unlike P/E, it remains meaningful for unprofitable companies because revenue is always positive (or close to it) for operating businesses.

Kenneth Fisher popularized P/S in his 1984 book "Super Stocks," arguing that revenue is more stable and harder to manipulate than earnings. Accounting choices around depreciation, amortization, and one-time charges can distort earnings but leave revenue largely untouched.

The main limitation is that P/S ignores profitability entirely. A company trading at 1x sales with 30% margins is fundamentally different from one at 1x sales with 2% margins. P/S works best as a first-pass filter, combined with margin and quality checks.

Lower P/S ratios indicate cheaper valuation relative to revenue. A P/S below 1.0 historically identifies deep-value territory for profitable companies.

P/S is especially useful for comparing companies within the same industry, where margin structures are similar. Across industries, raw P/S comparisons are misleading because margin profiles differ dramatically.

Value investors sometimes screen for low P/S as a turnaround signal - companies with temporarily depressed margins but intact revenue bases. If margins recover to industry averages, the stock can re-rate significantly.

SaaS and technology companies routinely trade at P/S ratios of 5-20x because of high gross margins (70-90%) and scalability. A SaaS company at 5x sales with 80% gross margins effectively trades at 6.25x gross profit.

Retail and grocery businesses operate on thin margins (2-5% net) and typically trade at P/S below 1.0. Paying 2x sales for a grocery chain rarely makes sense.

Industrials and healthcare sit in between, with P/S ratios of 1-4x being common. Within each sector, compare P/S alongside operating margins for a useful relative valuation.