When it comes to company valuations, investors are generally attuned to scroll straight to the price-to-earnings (P/E) ratio. However, apart from looking at earnings or earnings potential, there is another straightforward metric that can give a fairly accurate idea of a company's value. It's also a yardstick favored by billionaire investor Warren Buffett, and following his lead is one of the surest money-making tactics you can find.
The price-to-sales ratio or PSR assesses stock prices in relation to the revenues earned by the company, i.e. market cap/trailing 12-month (TTM) revenue, or price-per-share/TTM revenue per share. While the bottom line is the ultimate indicator of the profitability of the company, top line growth needs to be strong for any company to sustain operations and profits.
As with any valuation multiple, PSR shouldn't be viewed in isolation, but if a stock with relatively low PSR displays good earnings without taking unreasonable debt load, then the stock has signs of intrinsic value that should appeal to smart investors.
Here are two gems that we've analysed through the price-to-sales ratio lens with additional factors making them a good fit for most portfolios.
At a TTM PSR of 1.2, New York based financial services firm BGC Partners might look a tad expensive, if you consider 1 as the ideal value.
However, the company is significantly lower than the industry average of 1.6 and even the broader S&P 500 which has a ratio of 1.8. Further, this trend of trading at a discount to the S&P 500 has been observed since 2011. However, in terms of earnings so far this year, BGC has outperformed the index by a huge margin. In fact, while the industry has recorded negative earnings, BGCP has delivered 17.6% earnings growth this year -- meeting or surpassing the analyst expectations in last four quarters.
Further, the 7% dividend yield on the stock makes it even more attractive for income investors.
Going forward too, analysts expect the company to expand revenues and earnings. If BGC meets its December 2016 revenue estimate of $2.81 billion, by December 2017, sales could top $3 billion. In terms of earnings, analysts expect the company to deliver 12.5% earnings growth annually for the next five years, trumping the industry's 10.55% and the S&P 500's 7.62% figures.
In order to repay its 4.50% convertible notes set to mature in July and fund future acquisitions, BGC has announced an offer of senior notes for $300 million. With debt almost at par with equity (vis-a-vis 2.6 debt-to-equity ratio for the industry), the company has much leeway to add additional debt to boost its revenue and profitability further. This undervalued stock should be a part of your long-term wealth building strategy.
Provider of specialty property and casualty insurance products AmTrust Financial Services has been on a shopping spree lately.
The company acquired Genworth Financial Mortgage Insurance from Genworth Financial (it was a small transaction, however). Last month, it agreed to acquire the Netherlands based specialty insurance firm ANV Holdings and its affiliates from Ontario Teachers' Pension Plan for $218.7 million.
Through these acquisitions, AmTrust looks to diversify and expand its business into overseas markets. In Europe especially, through GFMI -- which operates with products in the UK, Finland, Italy and Germany -- AmTrust can profit from the improving scenario in mortgage insurance.
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This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.