Finschool By 5paisa

Finschool
  • #
  • A
  • B
  • C
  • D
  • E
  • F
  • G
  • H
  • I
  • J
  • K
  • L
  • M
  • N
  • O
  • P
  • Q
  • R
  • S
  • T
  • U
  • V
  • W
  • X
  • Y
  • Z

Price-to-earnings ratio (P/E ratio)

Price-to-earnings ratio (P/E ratio)

Price-to-earnings ratio (P/E ratio)

About P/E ratio-

The Price Earnings Ratio (P/E Ratio) is the relationship between a company’s stock price and EPS. It is a popular ratio that gives investors a better sense of the value of the company. The P/E ratio shows the expectations of the market and is the price you must pay per unit of current earnings.

Earnings are important when valuing a company’s stock because investors want to know how profitable a company is and how profitable it will be in the future. Furthermore, if the company doesn’t grow and the current level of earnings remains constant, the P/E can be interpreted as the number of years it will take for the company to pay back the amount paid for each share

P/E ratio in use-
  1. Compare a company’s financial performance with that of others in the same business.

  2. Compare a company’s financial performance with its past performance.

  3. Compare a benchmark index’s performance with its past performance.

PE ratio formula-

P/E= current market price of share/ earnings per share

For example, the market price of a share of the Company ABC is Rs 900 and the earnings per share are Rs 90.

P/E =  = 10.

Now, it can be seen that the P/E ratio of ABC Ltd. is 10, which means that investors are willing to pay Rs 10 for every rupee of company earnings.

What does P/E ratio tell about a stock?

High P/E ratio –

Companies that have a higher P/E ratio are considered as a growth stock. If the company has a higher P/E ratio, investors will have higher expectations from a company with a higher earnings growth perspective and will show a willingness to pay more as it shows a positive growth performance. But this attitude put a lot of pressure on companies to perform at the investors’ expectation levels and want to justify their higher valuation. In some cases, it can also be referred to as an overpriced stock.

Low P/E ratio-

Companies with a lower P/E ratio are considered as a value stock. That means the company’s stock is undervalued. Investors look at these stocks as an opportunity. These stocks tempt investors to invest in stocks before the market corrects their value.

Negative P/E ratio-

 Sometimes companies that is losing money or with negative earnings having a negative P/E ratio. That’s why; Companies that consistently show a negative P/E ratio are not generating sufficient profit and run the risk of bankruptcy.

Conclusion-

A price-to-earnings ratio, or P/E ratio, is the measure of a company’s stock price in relation to its earnings.

Simply put, if the PE ratio of a company is 10, that means that for every 1 Rupee the company makes, the investors are willing to pay 10 Rupees.

Even though, PE ratio is a good indicator of whether or not a company is over or undervalued, no single ratio can tell the complete story about company’s financial well-being. It is important to not look at the PE ratio in isolation and make a judgement.



Related Words

View All
Rally

Rally



Read More
yield

Yield



Read More
key performance indicator

Key Performance Indicator (KPI)



Read More