Series 79: 3.5.3. P/E Ratio Vs. EV/EBITDA

3.5.3. P/E Ratio vs. EV/EBITDA

The two most commonly used “families” of valuation multiples are EV/EBITDA along with its variations, and the P/E ratio along with its variations. This is because EV/EBITDA is used to estimate EV, and the P/E ratio is used to estimate equity value. EV and equity value are the two most common ways of measuring a business’s value. Equity value is commonly emphasized when the company is mostly financed by common stock. Equity value represents how much it would cost to purchase all of the outstanding shares of the company. EV is commonly emphasized when the company has a more varied capital structure, including preferred stock and debt. EV represents the entire cost of acquiring a company—the value of the equity plus the cost of the debt that the acquirer will also have to take on when buying the company.

Naturally, the P/E ratio is more commonly used than EV/EBITDA in the stock trading world, but it is not an ideal metric for all companies. Notably, companies with low or negative EPS do not fare well under a price/earnings analysis, even in instances where a broader analysis might find a company to be a promising investment. Because a company’s P/E rat