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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.
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