Price-Earnings Ratio - P/E
Ratio
A valuation ratio of a company's current share price compared to its per-share
earnings.
Calculated as:
For example, if a company is currently trading at $43 a share and earnings over
the last 12 months were $1.95 per share, the P/E ratio for the stock would be
22.05 ($43/$1.95).
EPS is usually from the last four quarters (trailing P/E), but sometimes it can be
taken from the estimates of earnings expected in the next four quarters
(projected or forward P/E). A third variation uses the sum of the last two actual
quarters and the estimates of the next two quarters.
Also sometimes known as "price multiple".
In general, a high P/E suggests that investors are expecting higher
earnings growth in the future compared to companies with a lower P/E. However,
the P/E ratio doesn't tell us the whole story by itself. It's usually more useful to
compare the P/E ratios of one company to other companies in the same industry,
to the market in general or against the company's own historical P/E. It would not
be useful for investors using the P/E ratio as a basis for their investment to
compare the P/E of a technology company (high P/E) to a utility company (low
P/E) as each industry has much different growth prospects.
The P/E is sometimes referred to as the "multiple", because it shows how much
investors are willing to pay per dollar of earnings. If a company were currently
trading at a multiple (P/E) of 20, the interpretation is that an investor is willing to
pay $20 for $1 of current earnings.
It is important that investors note an important problem that arises with the P/E
measure, and to avoid basing a decision on this measure alone. The
denominator (earnings) is based on an accounting measure of earnings that is
susceptible to forms of manipulation, making the quality of the P/E only as good
as the quality of the underlying earnings number.
Earnings per Share - EPS
The portion of a company's profit allocated to each outstanding share of common stock.
Calculated as:
Companies usually use a weighted average number of shares outstanding over the reporting
term.
Notes:
This is the single most popular variable in dictating a share's price. EPS indicates the profitability
of a company.
The diluted EPS means that the outstanding shares include any convertibles or warrants
outstanding.
See also: Cash EPS, Core Earnings, Diluted EPS, Earnings, Net Income, Outstanding Shares,
Price to Earnings Ratio, Trailing Twelve Months (TTM)
