Calculate and Interpret the Price/Cash Flow Ratio

By Stock Research Pro • September 13th, 2009

The price/cash flow (P/CF) ratio is used to compare the market value of a company to its cash flow. Like the Price/Earnings (P/E) ratio, P/CF provides investors with a sense of relative value. While the P/E ratio is probably the most commonly used measure of valuation, many analysts prefer the P/CF ratio since it removes the effects of non-cash factors like depreciation. Because accounting practices regarding depreciation can vary by jurisdiction, the P/CF ratio can help investors evaluate international companies with greater ease.

What is Cash Flow?

A company’s cash flow is the movement of cash into and out of the business. Cash flow is usually measure over a specified period of time and the observation of cash flows can help investors recognize liquidity issues within a company. It’s important to note that even profitable companies can find themselves in trouble due to cash shortages.

Calculate the Price/ Cash Flow Ratio

The formula for the price/cash flow ratio can be written as:

Price/Cash Flow = Share Price / Cash Flow per Share

The P/CF ratio is calculated by dividing the current stock price by the company’s cash flow from operations. Some investors prefer a variation of the formula which utilizes free cash flow (FCF) instead.

Click here for a cash flow per share calculator

Using the Price/Cash Ratio for Stock Valuation

The average P/CF ratio tends to vary among industries. For more capital-intensive companies, P/CF ratios are often lower than for those businesses that have lower capital requirements. Like many financial ratios, P/CF is best used to compare companies within the same industry or to evaluate the performance of any particular company over time.

The above information is educational and should not be interpreted as financial advice. For advice that is specific to your circumstances, you should consult a financial or tax advisor.

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