POSTED BY December 9, 2010 4:29 pm COMMENTS (4)

ONPlease explain what is P/E and how it is calculated with an example if possible. Also if you could let us know how it should be considered while buying stocks. I agree that this is not the only factor to be considered while buying stocks. Just want to know when considering this what points we should think of?

Hi JayaPrakash,

The P/E ratio (price-to-earnings ratio) of a stock is a measure of the price paid for a share relative to the annual net income or profit earned by the firm per share. P/E reflects the capital structure of the company in question. P/E is a financial ratio used for valuation: a higher P/E ratio means that investors are paying more for each unit of net income, so the stock is more expensive compared to one with lower P/E ratio. The P/E ratio has units of years, which can be interpreted as “number of years of earnings to pay back purchase price”, ignoring the time value of money. In other words, P/E ratio shows current investor demand for a company share.

Regards

Atul

Also remember that the EPS is past 12-month earnings and need not predict/correlate with future earnings growth/expectation/actual value! Quite a complicated and messy affair.

Then there is P/BV (price-to-book value), PEG (Price-earnings-growth-ratio), PSR (price-to-sales ratio = probably the single best value indicator but by no means a foolproof method).

Ramesh

@Jayaprakash

P/E talks about the relationship between the company’s Earning per share and the stock price.

P/E = Stock Price / EPS

For example:

Company A’s share price is 100 and its EPS is 5, then its PE calculated to 20. In my opinion, compare your stock PE with other peer stocks PE which are operating in the same industry. Check out the particular industry’s average PE. At times your stock may be quoting in higher PE than the other stocks in the same business. It could mean that there is a higher hope for this stock’s future / or some punters may behind the stock and ramping up the prices.

So, do through research, understand their business and take expert’s advice also.

All the best.. Happy Investing.

Thanks – Siva

It is a measurement of price of a share in relation to the annual net income or profit earned by the firm per share. AKA price-to-earnings ratio.