Numbers can lie -- but they're the best first step in determining whether a stock is a buy. In this series, we use some carefully chosen metrics to size up a stock's true value based on the following clues:

  • The current price multiples
  • The consistency of past earnings and cash flow
  • How much growth we can expect

Let's see what those numbers can tell us about how cheap AK Steel Holding (NYSE: AKS) might be.

The current price multiples
First, we'll look at most investors' favorite metric: the P/E ratio. It divides the company's share price by its earnings per share (EPS) -- the lower, the better.

Then, we'll take things up a notch with a more advanced metric: enterprise value to unlevered free cash flow. This divides the company's enterprise value (basically, its market cap plus its debt, minus its cash) by its unlevered free cash flow (its free cash flow, adding back the interest payments on its debt). Like the P/E, the lower this number is, the better.

Analysts argue about which is more important -- earnings or cash flow. Who cares? A good buy ideally has low multiples on both.

AK Steel has a P/E ratio of 165.8 and a negative EV/FCF ratio over the trailing 12 months. If we stretch and compare current valuations to the five-year averages for earnings and free cash flow, AK Steel has a P/E ratio of 29.7 and a five-year EV/FCF ratio of 24.6.

A one-year ratio under 10 for both metrics is ideal. For a five-year metric, under 20 is ideal.

AK Steel is zero for four on hitting the ideal targets, but let's see how it compares against some competitors and industry mates. 

Company

1-Year P/E

1-Year EV/FCF

5-Year P/E

5-Year EV/FCF

AK Steel

165.8

NM

29.7

24.6

Allegheny Technologies (NYSE: ATI)

59.0

NM

13.2

116.9

Carpenter Technology (NYSE: CRS)

88.4

86.9

11.4

12.1

Steel Dynamics (Nasdaq: STLD)

21.6

46.6

11.1

35.7

Source: Capital IQ, a division of Standard & Poor's; NM = not meaningful.

Numerically, we've seen how AK Steel‘s valuation rates on both an absolute and relative basis. Next, let's examine…

The consistency of past earnings and cash flow
An ideal company will be consistently strong in its earnings and cash flow generation.

In the past five years, AK Steel's net income margin has ranged from -12.9% to 6.9%. In that same time frame, unlevered free cash flow margin has ranged from -3.2% to 6.3%.

How do those figures compare with those of the company's peers? See for yourself:


Source: Capital IQ, a division of Standard & Poor's; margin ranges are combined.

Additionally, over the last five years, AK Steel has tallied up four years of positive earnings and three years of positive free cash flow.

Next, let's figure out…

How much growth we can expect
Analysts tend to comically overstate their five-year growth estimates. If you accept them at face value, you will overpay for stocks. But while you should definitely take the analysts' prognostications with a grain of salt, they can still provide a useful starting point when compared to similar numbers from a company's closest rivals.

Unfortunately, AK Steel's five-year past growth is meaningless due to some losses. Per Yahoo! Finance, though, analysts expect future five-year growth of 10%. The three comparables used above are expected to grow between 10%-20%.

The bottom line
The pile of numbers we've plowed through has shown us how cheap shares of AK Steel are trading, how consistent its performance has been, and what kind of growth profile it has -- both on an absolute and a relative basis.

The more consistent a company's performance has been and the more growth we can expect, the more we should be willing to pay. We've gone well beyond looking at a 165.8 P/E ratio.

As we go beyond the numbers, we have to consider macroeconomic factors. My Foolish colleague Jordan DiPietro did this when he recently wrote about his favorite steel play (hint: it's not one of these four).

Interested in reading more about any of these stocks? Add them to My Watchlist to find all of our Foolish analysis.

Anand Chokkavelu doesn’t own shares in any company mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.