Instead of Price Earning (P/E) Ratio many investment analysts prefer to look at price cash flow ratio. A Price to Cash Flow Ratio is measured as the company’s current stock price divided by its current annual cash flow per share.
Price/Cash Flow Ratio = Price Per Share / (Cash Flow / Shares Outstanding)
There are varieties of definitions of cash flow. In this context, the most famous measure is simply calculated as net income plus depreciation. Cash flow is usually reported in firm’s financial statement and labeled as cash flow from operations.
The difference between cash and earnings is often confusing largely because the way standard accounting practice defines net income. Essentially net income is measured as incomes minus expenses. Obviously this is logical. However not all are actual cash expenses. The most important exception is depreciation.
When a firm acquires a long-lived asset such as new factor facility, standard accounting practice does not deduct the cost of the factory at all once, even though it is actually paid for all at once. Instead the cost is deducted over time. These deductions do not represent actual cash payments, however. The actual cash payments occurred when the factory was purchased. Most analysts agree that in examining a company’s financial performance, cash flow can be more informative than the net income.