Price-to-Cash Flow Ratio (P/CF Ratio)
Price to cash flow ratio formula
What is the price to cash flow ratio and, what does it tell you?
Price-to-Cash Flow Ratio measures the value of a share price relative to its operating cash flow per share. In other words, the price-to-cash flow ratio measures stock price relative to how much cash generated by the company.
The price to cash flow ratio is said to be a better investment valuation indicator than the price-earnings ratio, due to the following reasons,
- Manipulating cash flows is not as easy as earnings.
- If the company is not generating cash for a long period, the company is a bad investment. There is a possibility of going bankrupt.
Normally Price-to-Cash Flow Ratio is calculated for the previous 12-month data (TTM).
What does it mean by a high price to cash flow ratio?
A high price to cash flow ratio indicates that the company’s shares are trading at a high price. So the company share may be overvalued. Most probably, the company is not generating enough cash. So the price to cash flow ratio becomes high.
What does it mean by a low price to cash flow ratio?
A low price to cash flow ratio indicates that the company’s shares are trading at a cheap price. So the company share may be undervalued.
If the company is generating a lot of cash, then investors can predict a bright future for the company.
It can be a good investment.
How to use price to cash flow ratio?
Shares with a low Price-to-Cash Flow Ratio compared to its industry can be a good investment.
Risk of using price to cash flow ratio and When not to use price to cash flow ratio
Shares with a high price to cash flow ratio compared to its industry can be a high-risk investment. So better not to invest in these shares if you are not certain.
When to use price to cash flow ratio?
To evaluate stocks with large noncash expenses like depreciation.
When not to use price to cash flow ratio?
The price to cash flow ratio should not be used to evaluate companies when the company has positive cash flow, but the company has high noncash expenses.
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