Accounting issues are not relevant to this discussion. As such, we must consider the other characteristics of the market to choose the best method. The P/E ratio is limited in value because many of the companies do not make money. The P/S ratio doesn’t work well when the companies have different cost structures, and the measure does not reflect differences in profit margins. EBITDA is less likely to be negative than earnings, but it will fall prey to differences in cost structure just as the P/E and P/S ratios will. Like EBITDA, book value is often positive even when profits are negative. The price/book ratio is best for valuing companies with small amounts of fixed assets, like software makers. In addition, the fact that most of the companies are small eliminates one of the P/B ratio’s weaknesses that it can be misleading when compared firms have significantly different asset sizes |
