For Immediate Release
Chicago, IL – May 22, 2019 - Stocks in this week’s article are Quanta Services, Inc. (PWR - Free Report) , Principal Financial Group, Inc. (PFG - Free Report) , DXC Technology Company (DXC - Free Report) , Universal Forest Products, Inc. (UFPI - Free Report) and Newmark Group, Inc. (NMRK - Free Report) .
Pick These 5 Value Stocks with Alluring EV/EBITDA Ratios
The price-to-earnings (P/E) ratio is broadly considered by investors as a yardstick for evaluating the fair market value of a stock. Many prefer to take the P/E route in their quest for stocks that are trading at attractive prices. However, even this widely popular valuation metric is not without its pitfalls.
Is EV/EBITDA a Better Substitute to P/E?
Although P/E is hands down the most widely used equity valuation ratio in the market, a relatively less-used metric called EV/EBITDA is often viewed as a better option as it offers a clearer image of a company’s valuation and earnings potential. Unlike P/E that solely considers a company’s equity portion, EV/EBITDA determines its total value.
EV/EBITDA, also known as the enterprise multiple, is essentially the enterprise value (EV) of a stock divided by its earnings before interest, taxes, depreciation and amortization (EBITDA). EV is the sum of a company’s market capitalization, its debt and preferred stock minus cash and cash equivalents. In a nutshell, it is the total value of a company.
The other element of the ratio, EBITDA gives the true picture of a company’s profitability as it removes the impact of non-cash expenses like depreciation and amortization that depress net earnings. It is also often used as a proxy for cash flows.
Usually, the lower the EV/EBITDA ratio, the more attractive it is. A low EV/EBITDA ratio could imply that a stock is potentially undervalued and vice versa.
However, unlike P/E ratio, EV/EBITDA takes into account the debt on a company’s balance sheet. For this reason, EV/EBITDA is usually used to value possible acquisition targets. Stocks with a low EV/EBITDA multiple could be seen as potential takeover candidates.
Moreover, P/E can’t be used to value a loss-making firm. A company’s earnings are also subject to accounting estimates and management manipulation. In contrast, EV/EBITDA is less open to manipulation and can also be used to value companies that are making loss but are EBITDA-positive.
EV/EBITDA is also a useful tool in measuring the value of companies that are highly leveraged and have a high degree of depreciation. Moreover, the ratio allows the comparison of companies with different debt levels.
However, EV/EBITDA is not without its flaws and it alone can’t conclusively determine a stock’s inherent potential and future performance. It varies across industries (a high-growth industry normally has higher multiple and vice versa) and is typically not appropriate while comparing stocks in different industries given their diverse capital expenditure requirements.
Therefore, instead of solely relying on EV/EBITDA, you can club it with the other key ratios such as price-to-book (P/B), P/E and price-to-sales (P/S) to achieve the desired outcome.
For the rest of this Screen of the Week article please visit Zacks.com at:https://www.zacks.com/stock/news/417386/Pick-These-5-Value-Stocks-With-Alluring-EVEBITDA-Ratios
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