🏷️ Valuation ratios: P/E, EV/EBITDA, free cash flow yield and more

🎯 In 30 seconds: A share price means nothing on its own. Valuation ratios compare the price with something the business produces: earnings (P/E), sales (P/S), book value (P/B), cash (free cash flow yield) or operating profit including debt (EV/EBITDA). They let you compare a ₹400 share with a ₹4,000 share, or a software firm with a steel maker. They do not tell you whether a share will go up. A low ratio can mean a bargain, or it can mean the market expects trouble. You need the ratio and the reason behind it.

Why ratios exist

Think of two plots of land for sale in the same town. One costs ₹40 lakh, the other ₹25 lakh. Which is cheaper? You cannot tell until you know the size of each plot. Price per square foot is the ratio that makes them comparable.

Shares work the same way. A ₹400 share is not more expensive than a ₹300 share. What matters is how much you pay for each rupee the business earns, sells or owns. Ratios turn that into one number you can compare across companies and across years.

Three building blocks first, from The three financial statements:

• Market capitalisation (market cap): share price times the number of shares. The price of the whole company's equity.
• Earnings per share (EPS): profit after tax divided by the number of shares.
• Enterprise value (EV): market cap plus borrowings minus cash. The price of the whole business, including what it owes. More on this below.

Two hypothetical companies

We will value two made-up companies side by side. Ananya Software Ltd sells billing software to restaurants. Bharat Steel Parts Ltd makes forged parts for trucks. Both have 10 crore shares. All figures are in ₹ crore unless they are per share.

Check the middle rows: EBITDA minus depreciation minus finance costs gives profit before tax. Ananya: ₹600 - ₹290 - ₹90 = ₹220 crore. Bharat: ₹650 - ₹120 - ₹270 = ₹260 crore. Then 25% tax. Ananya's free cash flow is higher than its profit because software needs little new equipment, while its large depreciation and amortisation (on capitalised software and acquired assets) is a non-cash charge.

P/E: price to earnings

P/E = share price / EPS. It answers one question: how many rupees do you pay for one rupee of yearly profit?

• Trailing P/E uses the last 12 months (often written TTM, trailing twelve months) of actual EPS. Real numbers, but backward-looking.
• Forward P/E uses analysts' estimates for the next 12 months. Forward-looking, but estimates are often wrong.

On trailing P/E, Bharat looks much cheaper. Now look forward. Ananya's EPS is expected to grow from ₹16.50 to ₹20. Bharat's is expected to fall from ₹19.50 to ₹14, perhaps because truck demand is slowing. On forward numbers, Bharat is the pricier one.

Flip P/E upside down and you get the earnings yield: EPS / price. Ananya: ₹16.50 / ₹400 = 4.1%. Bharat: ₹19.50 / ₹300 = 6.5%. Earnings yield is handy for comparing a share with a bond, because both are percentages. If a 10-year government bond yields more than a share's earnings yield, you are paying up for growth you expect later. Bonds and stocks takes this further.

P/E stops working when earnings are zero or negative. A company that lost money has no meaningful P/E, so use sales or cash flow instead.

PEG: adding growth

PEG = P/E / expected yearly EPS growth (in percent). It adjusts P/E for growth, since a fast-growing company deserves a higher P/E than a shrinking one.

Ananya: EPS is expected to grow from ₹16.50 to ₹20, about 21%. PEG = 24.2 / 21 = 1.15. Bharat's earnings are expected to shrink, so its PEG is meaningless.

A common rule of thumb treats a PEG near 1 as fair. That is a convention, not a law. PEG rests entirely on a growth forecast, and long-range growth forecasts are some of the least reliable numbers in finance.

P/S and P/B: sales and book value

Price-to-sales (P/S) = market cap / revenue. Ananya: ₹4,000 / ₹2,000 = 2.0. Bharat: ₹3,000 / ₹4,000 = 0.75.

P/S works for companies with no profit yet, such as many recently listed new-age businesses. The weakness: a rupee of sales is not a rupee of profit. A software firm keeps far more of each rupee of sales than a forging plant, so their P/S ratios are not directly comparable.

Price-to-book (P/B) = market cap / book value. Book value is shareholders' equity from the balance sheet: assets minus liabilities. Ananya: ₹4,000 / ₹1,600 = 2.5. Bharat: ₹3,000 / ₹1,500 = 2.0.

P/B is the main yardstick for banks, NBFCs and insurers, whose assets are mostly loans and investments carried close to their real value. For a bank, check P/B alongside the quality of its loans: a bank with a low P/B and rising bad loans may deserve it. P/B is weak for software or consumer-brand companies, whose most valuable assets (code, brands, distribution, people) barely appear on the balance sheet.

EV/EBITDA: counting the debt

P/E only looks at the shareholders' slice. But if you bought the whole company, you would also take on its borrowings and get its cash. Enterprise value captures that:

EV = market cap + borrowings - cash (plus preference capital and non-controlling interest, if any).

EBITDA is earnings before interest, tax, depreciation and amortisation: a rough measure of operating profit before financing choices and non-cash charges. It is not defined by Ind AS, so companies can calculate it in slightly different ways. Check the company's own definition in its investor presentation.

EV/EBITDA: Ananya ₹4,800 / ₹600 = 8.0. Bharat ₹5,900 / ₹650 = 9.1.

Now Bharat, the "cheap" share on trailing P/E, is the more expensive business. Its heavy borrowing makes the equity look small, but whoever owns it still has ₹3,000 crore of loans to service.

EV/EBITDA does not work for banks and NBFCs, because for them borrowing is the raw material of the business, not a financing choice. Use P/B and P/E there.

Free cash flow yield and dividend yield

Free cash flow (FCF) is cash from operations minus capital spending: the cash left for owners. FCF yield = free cash flow / market cap.

Ananya: ₹240 / ₹4,000 = 6.0%. Bharat: ₹150 / ₹3,000 = 5.0%. Ananya turns more of its profit into spare cash. Many analysts trust FCF more than EPS, because cash is harder to dress up than accounting profit.

Dividend yield = yearly dividend per share / share price. Ananya: ₹4 / ₹400 = 1.0%. Bharat: ₹9 / ₹300 = 3.0%.

Also check the payout ratio: dividend per share divided by EPS. Bharat pays ₹9 out of ₹19.50 of EPS today, 46%. If EPS falls to the expected ₹14, that becomes 64%. Its free cash flow is ₹15 a share, so the dividend is still covered, but the cushion is thinner and the company also has ₹3,000 crore of debt to repay. A high yield that the cash flow cannot keep paying is a warning, not a gift. Dividend investing covers yield traps, and Dividends, bonus issues, splits and buybacks covers how dividends are paid and taxed.

Why a low P/E is not automatically cheap

The market is a crowd of buyers and sellers, many of whom have the same numbers you do. When a P/E is low, the crowd usually has a reason. Common ones:

• Earnings are at a peak. Cyclical businesses (steel, cement, auto parts, chemicals, airlines) earn the most at the top of the cycle. P/E looks lowest right before profits fall.
• One-time gains. Selling land or a subsidiary, or a big tax refund, can inflate one year's profit. Look for "exceptional items" on the P&L and strip them out.
• Heavy debt. As with Bharat, borrowings shrink the equity value and make P/E look low.
• A shrinking business. A company losing customers deserves a low multiple. A share that keeps getting cheaper as its business declines is called a value trap.
• Governance doubts. Large related party dealings, pledged promoter shares or a history of surprises can keep a P/E low for years. Qualitative analysis covers these.
• Accounting choices. Aggressive revenue recognition or low depreciation can lift EPS without lifting cash.

The market's own P/E, and why India's often looks high

NSE Indices publishes a monthly factsheet for each Nifty index with its P/E, P/B and dividend yield. As of 30 September 2026, the Nifty 50 factsheet showed a P/E of 19.36. That number moves every day, so check the latest factsheet rather than trusting any figure you read, including this one.

Indian index P/Es have often been higher than those of many other markets, emerging and developed. People usually give a mix of reasons. None of them is proven, and they can all change:

• Growth expectations. Investors expect company earnings in a fast-growing economy to rise faster, and pay more today for that.
• Steady domestic money. Monthly SIPs into mutual funds bring a regular flow of buying that does not depend on foreign investors' mood.
• Index mix. The big Indian indices hold many private banks and consumer companies with high returns on equity, which tend to trade at higher multiples than, say, commodity producers.
• Limited supply. The number of large, well-run listed companies is small relative to the money chasing them.

The counterweight: India's interest rates have usually been higher than those in the US, Europe or Japan, and higher rates normally argue for lower P/Es. A high market P/E is not a sell signal and a low one is not a buy signal. It tells you how much optimism is already in the price.

A practical procedure

1. Start with what the company does and how it makes money. The right ratio depends on the business: P/B for lenders, EV/EBITDA for capital-heavy firms with debt, P/E and FCF yield for most others.
2. Use consolidated figures, and check which EPS a website quotes. Screeners sometimes mix standalone and consolidated.
3. Pull at least three ratios: one on earnings (P/E), one on cash (FCF yield) and one that includes debt (EV/EBITDA).
4. Compare each with the company's own five-year range and with two or three direct competitors.
5. If something looks cheap, write down why the market might be right. Peak earnings? Debt? A shrinking market? Governance?
6. Check whether trailing and forward numbers point the same way. A big gap means the market expects change.
7. Only then decide whether the price leaves room for error. That is the margin of safety, covered in Building a stock thesis.

One more limit: valuation tells you little about the next week or month. Expensive shares can get more expensive for years and cheap ones can stay cheap. For short-term trades, valuation is context, not a timing signal. Growth vs value looks at how cheap and expensive shares have behaved over long periods in India.

Try it

Pick four listed companies from one industry (for example, four cement makers or four private banks). From each company's latest annual results on the NSE or BSE website, write down in a spreadsheet: share price, number of shares, consolidated profit after tax, borrowings, cash, and EBITDA (or operating profit plus depreciation). Calculate market cap, P/E, EV and EV/EBITDA yourself. For banks, calculate P/B instead of EV/EBITDA. Rank the four by P/E, then by EV/EBITDA, and see whether the order changes. For any company that moves a lot, find the reason in its balance sheet.

Then download the latest Nifty 50 factsheet and one sectoral factsheet from the NSE Indices website and note the P/E of each, with the date.

And check your work on the two companies: if Bharat Steel Parts raised ₹1,000 crore by issuing new shares and used it to repay ₹1,000 crore of debt, what would happen to its EV? (Answer: borrowings fall by ₹1,000 crore but market cap rises by roughly the same amount from the new shares, so EV stays close to ₹5,900 crore. Only the split between owners and lenders changes. Interest cost does fall, though, so profit and EPS change.)

Sources

• NSE Indices: Nifty 50 factsheet (P/E 19.36 as of 30 September 2026)
• NSE Indices: Index factsheets, including sectoral indices
• Ministry of Corporate Affairs: Accounting Standards (Ind AS 33, Earnings per Share)
• NSE: Corporate filings, financial results