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FINANCIAL CHRONICLE™ » CORPORATE CHRONICLE™ » Lesson 01 - Price-to-Earnings ratio - (P/E Ratio)

Lesson 01 - Price-to-Earnings ratio - (P/E Ratio)

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Thushara Ayya

Thushara Ayya
Moderator
Moderator

I'll try to send some of information about the shares should know by the investors.
If there are some mistakes pl correct me.....Thanks

Price-to-Earnings ratio - (P/E Ratio)



It is common practice for investors to use the price-to-earnings ratio (P/E ratio or price multiple) to determine if a company's stock price is over or undervalued. Companies with a high P/E ratio are typically growth stocks. However, their relatively high multiples do not necessarily mean their stocks are overpriced and not good buys for the long term.
 
Let's take a closer look at what the P/E ratio tells us:

P/E Ratio              =  Market Value Per Share
                             Earnings Per Share(EPS)
 
There are two primary components here, the market value (price) of the stock and the earnings of the company. Earnings are very important to consider. After all, earnings represent profits, and that's what every business strives for. Earnings are calculated by taking the hard figures into account: revenue, cost of goods sold (COGS), salaries, rent, etc. These are all important to the livelihood of a company. If the company isn't using its resources effectively it will not have positive earnings, and problems will eventually arise.

Comments are welcome....

worthiness


Senior Vice President - Equity Analytics
Senior Vice President - Equity Analytics

PE ratio, used by many investors for share valuation purpose, is not a panacea though it extinguishes certain drawbacks attributable to EPS. Disadvantages inherited in EPS ratio itself carry the same into PE ratio as it acts as a denominator. One-off receipts from extraordinary event such as insurance claim, litigation etc.. distort the comparative statements. Buy decisions made on very low PE number would be inaccurate on firms where cyclical profits are earned. Investors used to overcome drawbacks by using another formula called PE growth rate (PEG) which is not even ultimate answer.

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