The price earnings ratio (P/E ratio) is calculated by dividing the stock current price by earning per share (EPS). It means an investor wish’s to earn one rupees/dollar; he/she need to invest that much of money. For example a stock is trading at $40/share with EPS of $2 would have PE of $20, it means to earn $1 the investor need to invest $20 at present. A stock having good earnings prospects and good trend of earning in past gives more returns in future with lower risks whether it has lower PE ratio or high PE ratio.
Earning is an accounting figure that includes non-cash items also and the same can be twisted into various numbers. The result is that we often don’t know whether we are comparing the same figure, or apples to oranges. Further in times of inflation, inventory and depreciation costs tend to be understated because the replacement costs of goods and equipment rise with the general level of price. Hence to conclude that there is problem as PE ratio is lower may not be correct one sense.
The things may be concrete only when the actual earnings are released. The past trend of particular industry/company should be taken into consideration. Hence it is a matter of more debate.
How fast the company been growing in the past, and are these rates expected to increase, or at least continue in future? Something is not right if a company has only grown 5% in the past and still has very high PR ratio. If a projected growth rate does not justify the P/E, a stock might be overpriced. The companies which are mature and have stable earnings over the period are less risky to invest. But it does not mean that we should not invest in high P/E Ratio Company. The companies which are young and quick growing have relatively high P/E Ratio. For example in starting the Microsoft had very high P/E in comparison to present. Here it is very important to compare companies from the same industry with similar characteristics
Earning is an accounting figure that includes non-cash items also and the same can be twisted into various numbers. The result is that we often don’t know whether we are comparing the same figure, or apples to oranges. Further in times of inflation, inventory and depreciation costs tend to be understated because the replacement costs of goods and equipment rise with the general level of price. Hence to conclude that there is problem as PE ratio is lower may not be correct one sense.
The things may be concrete only when the actual earnings are released. The past trend of particular industry/company should be taken into consideration. Hence it is a matter of more debate.
How fast the company been growing in the past, and are these rates expected to increase, or at least continue in future? Something is not right if a company has only grown 5% in the past and still has very high PR ratio. If a projected growth rate does not justify the P/E, a stock might be overpriced. The companies which are mature and have stable earnings over the period are less risky to invest. But it does not mean that we should not invest in high P/E Ratio Company. The companies which are young and quick growing have relatively high P/E Ratio. For example in starting the Microsoft had very high P/E in comparison to present. Here it is very important to compare companies from the same industry with similar characteristics
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