Valuation Fundamentals Made Easy
Importance of Looking at Price-to-Sales Ratios
A Stock with an Attractive Price/Sales Ratio
Kevin Matras of Zacks Investment Research recently penned an interesting article. The article focused on one calculation to find undervalued stocks that will consistently outperform the stock market indexes. Kevin publishes a new research screen every week, but he stated: “If I could only use one item to screen and pick stocks with, this item would be the one.”
The “item” Kevin referred to is the Price-to-Sales (P/S) ratio. Calculating the ratio is simple: divide the current price of a stock by the latest 12 months’ sales per share. If the Price-to-Sales ratio is 1.00, then you’re paying $1 for every $1 of sales the company produces. Paying less than a dollar for a dollar’s worth of sales is a good bargain. Finding bargains is especially important today with the stock market setting new records almost every day!
The Price-to-Sales ratio is unique, because it looks at sales rather than earnings. All investors are familiar with the Price-to-Earnings (P/E) ratio, but the P/E ratio can vary widely for a company depending on whether you use GAAP (Generally Accepted Accounting Principles) earnings or adjusted earnings.
For example, SYNNEX (SNX) reported GAAP earnings per share of $1.16 and adjusted earnings per share of $1.46. However, sales are never adjusted, so sales figures are consistent. In addition, sales are harder to manipulate on an income statement than earnings. When used with other valuation calculations, adding the Price-to-Sales (P/S) ratio almost always improves the result.
As you can see from the chart below, the lower the Price-to-Sales ratio, the higher the average annual return. Stocks selling with P/S ratios less than 1.00 easily beat stocks with higher P/S ratios.
The difference in the annual returns is quite remarkable, and the 17.8% return for stocks with P/S ratios less than 1.00 is impressive.
I scanned my database to find stocks that fit my usual S&P (Standard & Poor’s) screen. I looked for stocks with S&P STARS ratings of 4 or 5, S&P Value Ratings of 4 or 5, and S&P Quality ratings of B+ or better. With the results from that screen, I added my final P/S ratio criteria to include only stocks with Price-to-Sales ratios less than 1.00. One stock stood out, which I will describe below.
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SYNNEX Corp. (SNX: Current Price 82.62) offers business process retail and wholesale services to resellers, retailers, software publishers and original equipment manufacturers (OEMs) in the U.S., Japan and internationally. SYNNEX distributes IT systems, peripherals, system components, software and networking equipment to OEM suppliers such as Hewlett-Packard, IBM, Intel, Microsoft and Seagate. The company also offers services that include direct sales, technical support, customer care, renewals management, back office processing and information technology outsourcing.
SYNNEX’s purchase of IBM’s outsourcing business is exceeding sales and earnings expectations. The company also generated strong growth from existing operations in its technology solutions division in the U.S. The company is gaining notable market share in its primary geographic areas: the U.S., Canada and Japan.
Sales will likely rise 6% and EPS will surge 23% during the 12 months ending 2/28/16. The balance sheet is solid with low debt and ample cash. Standard & Poor’s Stars Rating is 5 (best), Value Rating is 5, and Quality Rating is B+ (above average). At 0.23 times current sales per share, SNX is highly rated and clearly undervalued. SNX initiated dividend payments in 2014 and will probably increase its dividend in 2015.
Additional acquisitions could boost sales and earnings above forecasts. I expect SNX to reach my Sell Target within one to two years, but you’ll have to subscribe to my Cabot Benjamin Graham Value Investor to find my current Sell Target and additional information on SYNNEX.
Lastly, I invite you to follow me on Twitter: @J_Royden_Ward. I send out at least one interesting tweet every day!
Until next time, be kind and friendly to everyone you meet.
J. Royden Ward
Chief Analyst, Cabot Benjamin Graham Value Investor
P.S. You can read more about SYNNEX and get continuing coverage in Cabot Benjamin Graham Value Investor. There you’ll not only find buy and sell advice for SNX, you’ll also discover an ample array of stocks selling at bargain prices. In every issue, you’ll find my legendary Maximum Buy and Minimum Sell Prices for over 275 stocks plus my up-to-date predictions for the Dow Jones Industrial Average. Click here to get started today!