The price-to-earnings ratio, which is commonly known to us as P/E ratio, often called P-E ratio or PE is used to calculate the value of equities through relative evaluation. In other words it is an equity valuation multiple and the valuation ratio of a company's current share price compared to its earnings per share (net profit). It is the most simplest and common method used for valuation.
It can be calculated by using the following formula
Suppose, the shares of the company 'XXXX' is trading at 975 Rupees (per share) and the earnings over last one year was 45 Rupees then PE ratio is 21.7
Different methods are used to calculate PE depending upon the type of earnings.
'Trailing PE' or 'historical PE' is calculated by using the net income for the most recent one year (last four quarters or two half years) divided by the weight-age average of common shares in issue during this period. It is the most common form of PE.
'Trailing PE from continued operations' uses operating earnings only to calculate PE. That means earnings from discontinued operations and extra ordinary items are excluded from calculation.
Another form of PE is called 'forward PE' or 'projected PE' or 'prospective PE', in this method estimated net earnings (published by a selected group of analysts) over next one year is used to calculate PE.
As I said above it is an equity valuation multiple. For example, If the PE ratio of a security is 25, it means that people are willing to pay 2500 RS for a company whose earnings per share is 100 Rupees.
A security with an average PE of 20-25 is considered as a good one. Above that the stock is not advisable.
Comparing the PE ratio of the companies in the same sectors are useful. The PE ratio of its sector and the whole index may also help investors to identify whether the security is expensive.
The companies which bear losses do not have a PE ratio.
It can be calculated by using the following formula
Suppose, the shares of the company 'XXXX' is trading at 975 Rupees (per share) and the earnings over last one year was 45 Rupees then PE ratio is 21.7
Different methods are used to calculate PE depending upon the type of earnings.
'Trailing PE' or 'historical PE' is calculated by using the net income for the most recent one year (last four quarters or two half years) divided by the weight-age average of common shares in issue during this period. It is the most common form of PE.
'Trailing PE from continued operations' uses operating earnings only to calculate PE. That means earnings from discontinued operations and extra ordinary items are excluded from calculation.
Another form of PE is called 'forward PE' or 'projected PE' or 'prospective PE', in this method estimated net earnings (published by a selected group of analysts) over next one year is used to calculate PE.
Features of PE
Higher PE ratio indicates that the company may get higher growth in earnings compared to the companies with lower PE.As I said above it is an equity valuation multiple. For example, If the PE ratio of a security is 25, it means that people are willing to pay 2500 RS for a company whose earnings per share is 100 Rupees.
A security with an average PE of 20-25 is considered as a good one. Above that the stock is not advisable.
Comparing the PE ratio of the companies in the same sectors are useful. The PE ratio of its sector and the whole index may also help investors to identify whether the security is expensive.
The companies which bear losses do not have a PE ratio.
