If you want to determine stock valuation on your own, try using price-to-sales, price-to-earnings, and price-to-book-value ratios

No matter which financial ratio you consult, remember it only gives you a partial view of a company’s strengths and weaknesses. So use more than just one when determining stock valuation, so you can get a better idea of the full story.

Here are three key tips for do-it-yourself stock valuation:

The Profits from Hidden Value Learn everything you need to know in 7 Pro Secrets to Value Investing for a FREE special report for you. Canadian Value Stocks: How to Spot Undervalued Stocks PLUS! Our Top 4 Value Stocks  I consent to receiving information from The Successful Investor via email. I understand I can unsubscribe from these updates at any time.

Using price/earnings ratio as a starting point for stock valuation

There’s no doubt that price/earnings ratios (or P/E’s) are a popular measure for investors. P/E ratios—the ratio of a stock’s per-share price to its per-share earnings—are published regularly in newspapers and on the Internet. These financial ratios are widely followed and are an important part of many investors’ decision making.

The standard P/E ratio involves using a stock’s current price and its per-share earnings for the previous 12 months.

Like any ratio or investment rule, this one comes with many exceptions. Some investors think the best way to pick undervalued stocks is to restrict their buying to stocks with low P/Es—perhaps 15.0 or less. Some think they can even ignore investment quality and diversification if they choose low P/E stocks.

However, to profit from P/Es, you need to keep them in perspective. The P/E ratio is one of the first things you’ll look at when analyzing a stock. It shouldn’t be the only thing. Successful investors treat P/Es as one of many tools, not a deciding factor.

Stock valuation with price-to-sales ratios

You get the price-to-sales ratio when you divide a stock’s price by its sales per share (you arrive at sales per share by dividing total annual sales by the number of outstanding shares).

Sales is the raw material of earnings; that is, sales minus expenses equals earnings, so earnings are always less than sales.

The basic rule is that a lower price-to-sales ratio means that a stock is cheap. A higher p/s tends to indicate that a stock is expensive. Still, many individual stocks seem to run counter to this rule. Stocks with deservedly high p/s ratios can rise for lengthy periods, and stocks with deservedly low p/s ratios can fall.

That’s why it’s important to keep price-to-sales ratios in perspective. They tend to provide hints rather than clear answers. They are only one among many tools in your stock research.

It will give you some idea of how healthy a company is. Likewise, the price-sales ratio can also give you some insight into how you may be able to benefit from a particular stock.

Use Price-to-book-value ratios for determining stock valuation

The book value per share of a company is the value that the company’s books place on its assets, less all liabilities, divided by the number of shares outstanding. Book value per share gives you a rough idea of the stock’s asset value. This ratio represents a “snapshot” of an instant in time, and could change the next day. Asset values on a company’s books are the historical value of the assets when they were originally purchased, minus depreciation. (Certain types of assets on a balance sheet might have actual market values well above historical values, as sometimes happens with real estate or patents.)

When we are evaluating a stock with a low price-to-book value, we look to see if the price is too low, or if its book value per share is inflated. Often, when evaluating a stock, we find that the stock price is too low. But, sometimes, the company’s assets are overpriced on the balance sheet, and at risk of being written down.

No matter which ratios you use, there is uncertainty with valuation. How do you factor in this uncertainty when determining the value of stocks you’re interested in buying?

What financial ratios do you like to look at when you consider buying a stock?