There are 2 ways to value a stock. The first way is to compare it to itself by measuring its current balance sheet figures with the same figures in the previous quarter or year. This will give you some information as to whether it is improving or not and to some extent, why. The second is to compare it to its peers.

Since the company scoring system already does the first, the following exercise will show you how to do the second. Once you master it, it should take you no more than 20 or 30 minutes to complete and by then you will have a rough idea of how a company is doing in relation to its peers.

There are 6 metrics involved: 1) P/E ratio (price-earnings) 2) P/S ratio (price-sales) 3) P/CFO ratio (price to cashflow) 4) profit margin 5) asset turnover and 6) equity/asset ratio. Do not fear these concepts! They are easy to calculate and can be done as follows:

PE = closing price / (total earnings / number of outstanding shares)

PS= closing price / (total revenue / number of outstanding shares)

PCFO= closing price / (total operating cashflow / number of outstanding shares)

profit margin = net income / revenue

asset turnover = revenue / total assets

equity multiplier = shareholders equity / total assets

So much for all this mumbo jumbo. But what does it mean? Lets apply it to a real life scenario and see it all come to life:

So here are comparisons for 4 companies in the same sector based on today’s prices. Immediately we can see the Engkah is the most expensive. (ed: no it is not. But it is in the same bracket as Camres and Nihsin, and can be considered pretty expensive.) Why? Because it is the most efficient with a net income / sales ratio of 0.18. That means for every $1 of sales it generates, 18 cents is pure profit. And since Malaysian investors love profits, the market is rewarded it with a PE of 13. But is the best value?

Lets take a look at SKPres, which only has a PE of 5. For every $1 it sells, it makes only 10 cents, which is about 45% less than Engkah’s 18 cents. So it does seem as though SKPres is being fairly discounted for that.

But wait - notice the equity / asset ratios. Compared to Engkah, it is 1.1, which means that for every $1 its owners have put in, SKPres has acquired around 90 cents worth of assets. A figure of 0.61 means that for ever $1 its owners put in, Engkah has acquired $1.63 worth of assets. This tells me that SKPRes is getting by with fewer assets. Notice also that SKPres has a high asset turnover, which means that for every $1 worth of assets it owns, it makes $1.45 in sales, compared to just 80 cents for Engkah, which could mean that it is using its assets more effectively too (or even if it’s not, we can forgive it since the ratio is higher compared to its peers). And finally if you go back to Income / Sales and compare that to its peers, 10 cents to the dollar is not particularly low either. In fact its inline with the rest of them, which tells me that it isn’t doing a particularly bad job in that department, just that Engkah is doing it much better.

So now we don’t feel so bad about SKPRes. In fact, with a PE of only 5, we might even begin to think that you would get more for your money with SKPRes. If it could find a way to increase its profits just a bit, it would be a much better company than Engkah.

Now let’s just take a look at the other 2 counters quickly. Camres seems fairly respectable until you notice that its P/CFO ratio is 65! If you look deeper into the balance sheet you will notice that it has practically no operating cashflow. That, for me, is a big no no for a company. And Nishin is even more expensive than Engkah and has numbers which are not that much better than SKPres.

So as you can see, from just looking at these few metrics, we’ve managed to figure out why the leader of the pack is the leader (Engkah), and we have also identified the underdog (SKPres) as well as the ones you should just leave well alone (Camres and Nishin). When you make your trading decision, you’ll know then whether you’re going into something which is expensive, and why, and what alternatives there are.

PS this exercise should only be done with companies in the same sector (for reasons I hope are obvious).

Happy analysing!