payforastockandthebookvalueofequity(ornetworth)as
a measure of how over- or undervalued a stock is; the
price-to-bookvalueratiothatemergescanvarywidelyacross
industries,dependingagainuponthegrowthpotentialandthe
qualityoftheinvestmentsineach.Whenvaluingbusinesses,
weestimatethisratiousingthemarketvalueofthefirmor
enterprisevalue(netofcash)andthebookvalueofallassets
orcapital(ratherthanjusttheequity).Forthosewhobelieve
thatbookvalueisnotagoodmeasureofthetruevalueofthe
assets, an alternativeisto use thereplacementcost of the
assets;theratioofthemarketvalueofthefirmtoreplacement
cost is called Tobin’s Q.
Revenue Multiples
Bothearningsandbookvalueareaccountingmeasuresand
are determined by accounting rules and principles. An
alternativeapproach,whichisfarlessaffectedbyaccounting
choices,istousetheratioofthevalueofabusinesstothe
revenuesitgenerates.Forequityinvestors, thisratio isthe
price/sales (PS) ratio, where themarket value of equity is
dividedbytherevenuesgeneratedbythefirm.Forfirmvalue,
this ratio can be modified as the enterprise value-to-sales
(VS)ratio,wherethenumeratorbecomesthemarketvalueof
the operating assets of the firm. This ratio, again, varies
widely across sectors, largely as a function of the profit
marginsineach.Theadvantageofusingrevenuemultiples,
however, isthat itbecomesfar easierto comparefirms in
differentmarkets,withdifferentaccountingsystemsatwork,
than it is to compare earnings or book value multiples.
Sector-Specific Multiples