Fundamental Analysis · Intermediate · 5 min
P/E, P/B, P/S
You can calculate the price-earnings, price-to-book and price-to-sales ratios and explain what each one says and where it misleads.
Cheap compared with what?
A share costs 10 dollars, another costs 400. Which one is cheaper? The question sounds simple, but the price alone tells you almost nothing.
A 400-dollar share can be cheap and a 10-dollar share expensive. What matters is what you get for the money: profit, assets, sales. Three ratios put the price next to those numbers. They appear on every finance website and in almost every analyst report.
Price per dollar of profit
All three ratios divide the share price by one number per share. They answer the same question: how much do investors pay for one dollar of something?
- The price-earnings ratio (P/E) divides the price by earnings per share. It shows how many years of current profit the price represents.
- The price-to-book ratio (P/B) divides the price by book value per share, the shareholders' equity from the balance sheet divided by the number of shares.
- The price-to-sales ratio (P/S) divides the price by sales per share. It is often used for young companies, because sales are positive even when profits are not.
The fictional bicycle maker from the last lessons has 100 million shares at a price of 10. It earned 50 million (0.50 per share), has equity of 320 million (3.20 per share) and sales of 500 million (5.00 per share).
Each ratio has blind spots:
- P/E depends on one year's profit, which can be unusually high or low. It is meaningless when a company makes a loss.
- P/B works best for companies whose assets are mostly financial, such as banks. For software firms, whose value lies in code and customers, book value says little.
- P/S ignores costs completely. Two companies with the same sales can earn very different profits.
There are also two kinds of P/E: trailing, based on the last year's actual earnings, and forward, based on analysts' estimates for the next year.
Compare within an industry
Ratios differ enormously between industries. According to Aswath Damodaran's data for US companies as of January 2026, profitable companies traded at these price-earnings ratios:
Software companies cost more than three times as much per dollar of profit as homebuilders. That does not make software expensive and homebuilding cheap. Investors expected much faster growth from software and saw homebuilding as cyclical.
The same data show the gap in book values: large banks traded at about 1.6 times book value, software companies at about 9.1 times.
That is why a ratio only becomes useful in comparison: with direct competitors, with the company's own history, and with the growth that is expected.
Common mistakes
- Calling a low ratio cheap. A low P/E can signal that investors expect profits to fall. A share that looks cheap and keeps falling is called a value trap.
- Comparing across industries. A bank and a software company should not be judged by the same P/E or P/B.
- Trusting one year's earnings. One-off gains or losses can push the P/E far up or down.
- Mixing trailing and forward ratios. Check which earnings a website used before comparing two numbers.
The takeaway
P/E, P/B and P/S compare the share price with profit, book value and sales. They only make sense against peers and history, never alone.
Check yourself
Quick quiz
4 questions. Instant feedback, nothing is saved.
-
1Tap the industry where investors paid the most for each dollar of profit.
Tap the chart.
Software companies had a P/E of about 37.5, far above homebuilders at about 11. Investors expected much faster growth from software.
-
2A share costs 30 and the company earned 1.50 per share last year. What is its P/E?
P/E = price ÷ earnings per share = 30 ÷ 1.50 = 20.
-
3Why do analysts often use P/S for young companies that lose money?
A P/E needs positive earnings. Sales give at least a starting point, though they say nothing about profit.
-
4A share has a P/E of 6, far below its industry. What is the most careful reading?
A low ratio can mean an overlooked bargain or a business in decline. The ratio alone cannot tell which.
of 4 correct.