Defined as ‘A valuation ratio of a company’s current share price compared to its per-share earnings.’
Calculated as:
Market Value per Share
Earnings per Share (EPS)
For example, if a company is currently trading at £40 a share and earnings over the last 12 months were £2.10 per share, the P/E ratio for the stock would be 19 (£40/£2.10).
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.
Try this example. Which company would you invest in
Company A Share Price £10 (today) and Earnings per share last period £0.50
Company B Share Price £20 (today) and Earnings per share last period £1.25
Company C Share Price £2.60 (today) and Earnings per share last period £0.25
Email your answer and suggest which share might be most favoured by the market at this time. I’ll supply a spreadsheet solution and comment.
