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## What Is Price-to-Earnings Ratio – P/E Ratio?

The price-to-earnings ratio (P/E ratio) is the ratio for valuing a company that measures its current nói qua price relative lớn its per-nói qua earnings (EPS).The price-to-earnings ratio is also sometimes known as theprice multipleor the earningsmultiple.

P/E ratquả táo are used by investors & analysts lớn determine the relative sầu value of a company"s shares in an apples-to-apples comparison. It can also be used to lớn compare a company against its own historical record or to lớn compare aggregate markets against one another or over time.

The price-earnings ratio (P/E ratio) relates a company"s mô tả price to lớn its earnings per nói qua.A high P/E ratio could mean that a company"s stoông chồng is over-valued, or else that investors are expecting high growth rates in the future.Companies that have no earnings or that are losing money vì chưng not have sầu a P/E ratio since there is nothing to put in the denominator.Two kinds of P/E ratquả táo - forward & trailing P/E - are used in practice.

## P/E Ratio Formula & Calculation

Analysts and investors review a company"s P/E ratio when they determine if the nói qua price accurately represents the projected earnings per cốt truyện. The formula and calculation used for this process follow.

P/ERatio=MarketvaluepershareEarningspershare extP/E Ratio = frac extMarket value per share extEarnings per shareP/ERatio=EarningspershareMarketvaluepershare

To determine the P/E value, one simply must divide the current stoông xã price by theearnings per share (EPS). The current stoông chồng price (P) can be gleaned by plugging a stock’s ticker symbol inkhổng lồ any finance website, và although this concrete value reflects what investors must currently pay for a stoông chồng, the EPSis a slightly more nebulous figure.

EPS comes in two main varieties. The first is a metric listed in the fundamentals section of most finance sites; with the notation "P/E (TTM)," where “TTM” is aWall Streetacronym for “trailing 12 months.” This number signals the company"s performance over the past 12 months. Thesecond type of EPS is foundin a company"s earnings release, which often provides EPSguidance. This is the company"s best-educated guess of what it expects lớn earn in the future.

Sometimes, analysts are interested in long term valuation trends and consider the P/E 10 or P/E 30 measures, which average the past 10 or past 30 years of earnings, respectively. These measures are often used when trying khổng lồ gauge the overall value of a stochồng index, such as the S&P 500 since these longer term measures can compensate for changes in the business cycle. The P/E ratio of the S&Phường. 500 has fluctuated from a low of around 6x (in 1949) to lớn over 120x (in 2009). The long-term average P/E for the S&Phường 500 is around 15x, meaning that the stocks that Cosplay the index collectively comm& a premium 15 times greater than their weighted average earnings.

## Forward Price-To-Earnings

These two types of EPS metrics factor inlớn the most commontypes of P/E ratios:the forward P/E & thetrailing P/E. A third and less common variation uses the sum of the last two actual quarters & the estimates of the next two quarters.

The forward (or leading) P/E usesfuture earnings guidancerather than trailing figures. Sometimes called "estimated price khổng lồ earnings," this forward-looking indicator is useful for comparing current earnings to future earnings and helps provide a clearer picture of what earnings will look lượt thích – without changes and other accounting adjustments.

However, there are inherent problems with the forward P/E metric – namely, companies could underestimate earnings in order khổng lồ beat the estimate P/E when the next quarter"s earnings are announced. Other companies may overstate the estimate and later adjust it going intotheir nextearnings announcement. Furthermore, external analysts may also provide estimates, which may diverge from the company estimates, creating confusion.

## Trailing Price-To-Earnings

The trailing P/E relies on past performance by dividing thecurrent tóm tắt priceby the total EPS earnings over the past 12 months. It"s the most popular P/E metric because it"s the most objective – assuming the company reported earnings accurately. Some investors prefer to lớn look at the trailing P/E because they don"t trust another individual’searnings estimates. But the trailing P/E also has its nội dung of shortcomings –namely, a company’s past performance doesn’t signal future behavior.

Investors should thuscommit money based on futureearnings power, not the past. The fact that the EPS number remains constant, while the stoông xã prices fluctuate, is also a problem. If a major company event drives the stochồng price significantly higher or lower, the trailing P/E will be less reflective of those changes.

The trailing P/E ratio will change as the price of a company’s stoông xã moves, since earnings are only released each quarter while stocks trade day in & day out. As a result, some investors prefer the forward P/E. If the forward P/E ratio is lower than the trailing P/E ratio, it means analysts are expecting earnings khổng lồ increase; if the forward P/E is higher than the current P/E ratio, analysts expect a decrease in earnings.

## Valuation From P/E

Theprice-to-earnings ratioor P/Eis one of the most widely-used stoông xã analysis toolsused by investors và analysts for determiningstoông xã valuation. In addition to lớn showing whether acompany"s stoông xã price is overvalued or undervalued, the P/Ecan reveal how astock"s valuation compares lớn its industry group or a benchmark lượt thích the S&P 500 Index.

In essence, the price-to-earnings ratio indicates the dollar amount an investor can expect lớn invest in a company in order lớn receive one dollar of that company’s earnings. This is why the P/E is sometimes referred lớn as the price multiple because it shows how much investors are willing to lớn pay per dollar of earnings. If a company was currently trading at a P/E multiple of 20x, the interpretation is that an investor is willing lớn pay $đôi mươi for $1 of current earnings.

The P/E ratio helps investors determinethe market value of a stochồng as compared khổng lồ thecompany"searnings. In short, the P/Eratio shows what the market is willing to pay today for a stoông xã based on its past or futureearnings. A high P/E could mean that a stock"s price is high relative khổng lồ earnings & possibly overvalued. Conversely, a low P/E might indicate that the current stock price is low relative sầu khổng lồ earnings.

## Example of the P/E Ratio

As a historical example, let"s calculate the P/E ratio for Walmart Stores Inc. (WMT) as of November 14, 2017, when the company"s stock price closed at $91.09. The company"s profit for the fiscal year ending January 31, 2017, was US$13.64 billion, and its number of shares outstanding was 3.1 billion. Its EPS can be calculated as $13.64 billion / 3.1 billion = $4.40.

## Investor Expectations

In general, a high P/E suggests that investors are expecting higher earnings growth in the future compared to lớn companies with a lower P/E. A low P/E can indicate either that a company may currently be undervalued or that the company is doing exceptionally well relative sầu to lớn its past trends. When a company has no earnings or is posting losses, in both cases P/E will be expressed as “N/A.” Though it is possible lớn calculate a negative P/E, this is not the comtháng convention.

The price-to-earnings ratio can also be seen as a means of standardizing the value of one dollar of earnings throughout the stoông xã market. In theory, by taking the median of P/E ratquả táo over a period of several years, one could formulate something of a standardized P/E ratio, which could then be seen as a benchmark và used to indicate whether or not a stoông chồng is worth buying.

## P/E vs. Earnings Yield

The inverse of the P/E ratio is the earnings yield (which can be thought of lượt thích the E/P ratio). The earnings yield is thus defined as EPS divided by the stoông chồng price, expressed as a percentage.

If Stock A is trading at $10, và its EPS for the past year was 50 cents (TTM), it has a P/E of trăng tròn (i.e., $10 / 50 cents) and an earnings yield of 5% (50 cents / $10). If Stoông xã B is trading at $20 and its EPS (TTM) was $2, it has a P/E of 10(i.e., $trăng tròn / $2) và an earnings yield of 10% ($2 / $20).

The earnings yield as an investment valuation metric is not as widely used as itsP/E ratio reciprocal in stoông chồng valuation. Earnings yields can be useful when concerned about the rate of return on investment. For equity investors, however, earning periodic investment income may be secondary khổng lồ growing their investments" values over time. This is why investors may refer to value-based investment metrics such as P/E ratio more often than earnings yield when making stochồng investments.

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The earnings yield is also useful in producing a metric when a company has zero or negative earnings. Since such a case is common ahy vọng high-tech, high growth, or start-up companies, EPS will be negative sầu producing an undefined P/E ratio (sometimes denoted as N/A). If a company has negative sầu earnings, however, it will produce a negative sầu earnings yield, which can be interpreted và used for comparison.

## P/E vs. PEG Ratio

A P/E ratio, even one calculated using a forwardearnings estimate, don"t always tell you whether or not the P/E is appropriate forthe company"s forecasted growth rate. So, to address this limitation, investorsturn to lớn another ratio calledthePEG ratio.

A variation on the forward P/E ratio is the price-to-earnings-to-growth ratio, or PEG. The PEG ratio measures the relationship between the price/earnings ratiovà earnings growthlớn provide investors with a more complete story than the P/E on its own.In other words, the PEG ratio allows investorsto calculate whether a stock"s priceisovervalued or undervaluedby analyzing bothtoday"searnings and the expectedgrowth rate for the company in the future. The PEG ratio is calculated as a company’s trailing price-to-earnings (P/E) ratio divided by the growth rate of its earnings for a specified time period. The PEG ratio is used khổng lồ determine a stock"s value based on trailing earnings while also taking the company"s future earnings growth inkhổng lồ trương mục, và is considered khổng lồ provide a more complete picture than the P/E ratio. For example, a low P/E ratio may suggest that a stoông chồng is undervalued and therefore should be bought – but factoring in the company"s growth rate khổng lồ get its PEG ratio can tell a different story. PEG ratgame ios can be termed “trailing” if using historic growth rates or “forward” if using projected growth rates.

Although earnings growth rates can varyahy vọng different sectors, a stoông xã with aPEG of less than 1 is typically considered undervalued since its price is considered khổng lồ be low compared to lớn the company"sexpectedearnings growth. A PEG greater than1 might be considered overvalued since it might indicate the stock price is too highas compared to the company"sexpected earnings growth.

## Absolute vs. Relative P/E

Analysts may also make a distinction between absolute P/E & relative P/E ratios in their analysis.

### Absolute P/E

The numerator of this ratio is usually the current stock price, và the denominator may be thetrailing EPS(TTM), the estimated EPS for the next 12 months (forward P/E) or a mix of the trailing EPS of the last two quarters & the forward P/E for the next two quarters. When distinguishing absolute P/E from relative sầu P/E, it is important lớn rethành viên that absolute P/E represents the P/E of the current time period. For example, if the price of the stoông chồng today is $100, và the TTM earnings are $2 per nói qua, the P/E is 50 ($100/$2).

### Relative P/E

The relative sầu P/E compares the current absolute P/E to lớn a benchmark or a range of past P/Es over a relevant time period, such as the past 10 years. The relative P/E shows what portion or percentage of the past P/Es the current P/E has reached. The relative sầu P/E usually compares the current P/E value to lớn the highest value of the range, but investors might also compare the current P/E lớn the bottom side of the range, measuring how cchiến bại the current P/E is to the historic low.

The relative P/E will have sầu a value below 100% if the current P/E is lower than the past value (whether the past high or low). If the relative sầu P/E measure is 100% or more, this tells investors that the current P/E has reached or surpassed the past value.

## Limitations of Using the P/E Ratio

Like any other fundamental designed to lớn inkhung investors on whether or not a stoông xã is worth buying, the price-to-earnings ratio comes with a few important limitations that are important to lớn take into trương mục, as investors may often be led khổng lồ believe that there is one single metric that will provide complete insight into an investment decision, which is virtually never the case. Companies that aren"t profitable, và consequently have no earnings—or negative earnings per nội dung, pose a challenge when it comes to lớn calculating their P/E. Opinions vary on how to khuyến mãi with this. Some say there is a negative P/E, others assign a P/E of 0, while most just say the P/E doesn"t exist (not available—N/A) or is not interpretable until a company becomes profitable for purposes of comparison.

One primary limitation of using P/E ratquả táo emerges when comparing P/E rattiện ích ios of different companies. Valuations và growth rates of companies may often vary wildly between sectors due both to lớn the differing ways companies earn money và khổng lồ the differing timelines during which companies earn that money.

As such, one should only use P/E as a comparative sầu tool when considering companies in the same sector, as this kind of comparison is the only kind that will yield productive sầu insight. Comparing the P/E ratquả táo of a telecommunications company & an energy company, for example, may lead one to believe that one is clearly the superior investment, but this is not a reliable assumption.

## Other P/E Considerations

An individual company’s P/E ratio is much more meaningful when taken alongside P/E ratios of other companies within the same sector. For example, an energy company may have a high P/E ratio, but this may reflect a trover within the sector rather than one merely within the individual company. An individual company’s high P/E ratio, for example, would be less cause for concern when the entire sector has high P/E ratgame ios.

Moreover, because a company’s debt can affect both the prices of shares & the company’s earnings, leverage can skew P/E ratquả táo as well. For example, suppose there are two similar companies that differ primarily in the amount of debt they take on. The one with more debt will likely have sầu a lower P/E value than the one with less debt. However, if business is good, the one with more debt stands lớn see higher earnings because of the risks it has taken.

Another important limitation of price-to-earnings ratios is one that lies within the formula for calculating P/E itself. Accurate and unbiased presentations of P/E ratios rely on accurate inputs of the market value of shares & of accurate earnings per share estimates. The market determines the prices of shares through its continuous auction. The printed prices are available from a wide variety of reliable sources. However, the source for earnings information is ultimately the company themselves.This single source of data is more easily manipulated, so analysts and investors place trust the company"s officers lớn provide accurate information. If that trust is perceived to be broken the stoông chồng will be considered more risky and therefore less valuable.

To reduce the risk of inaccurate information, the P/E ratio is but one measurement that analysts scrutinize. If the company were lớn intentionally manipulate the numbers to look better, and thus deceive sầu investors, they would have sầu to lớn work strenuously to lớn be certain that all metrics were manipulated in a coherent manner, which is difficult to lớn vị. That"s why the P/E ratio continues to lớn be one of the centrally referenced points of data to analyze a company, but by no means the only one.

## Frequently Asked Questions

### What is a good price lớn earnings ratio?

The question of what is a good or bad price khổng lồ earnings ratio will necessarily depover on the industry in which the company is operating. Some industries will have sầu higher average price khổng lồ earnings rattiện ích ios, while others will have lower ratquả táo. For example, as of January 20trăng tròn, publicly-traded US coal companies had an average P/E ratio of only about 7, compared lớn more than 60 for software companies. If you want khổng lồ get a general idea of whether a particular P/E ratio is high or low, you can compare it lớn the average P/E of the competitors within its industry.

### Is it better khổng lồ have a higher or lower P/E ratio?

Many investors will say that it is better lớn buy shares in companies with a lower P/E, because this means you are paying less for every dollar of earnings that you receive sầu. In that sense, a lower P/E is like a lower price tag, making it attractive sầu khổng lồ investors looking for a bargain. In practice, however, it is important to understvà the reasons behind a company’s P/E. For instance, if a company has a low P/E because their business Model is fundamentally in decline, then the apparent bargain might be an illusion.

### What does a P/E ratio of 15 mean?

Simply put, a P/E ratio of 15 would mean that the current market value of the company is equal to lớn 15 times its annual earnings. In other words, if you were lớn hypothetically buy 100% of the company’s shares, it would take 15 years for you khổng lồ earn baông chồng your initial investment through the company’s ongoing profits.

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