The Price to Earning Ratio is used as a valuation standard and it is widely used in the financial market. The P/E ratio makes comparisons between the current or existing price of a share with EPS or earnings per share of the company.
Through this ratio, the percentage of company’s earning that is provided to the shareholders and the share-price are related with each other. The Price to Earning Ratio is very easy to calculate.
Formula of Profit to Earning Ratio (P/E Ratio):
Price of the Share/ Earnings Per Share
The EPS or earnings per share represents the exact amount that the shareholder receives for each share he or she holds. This amount is a part of the company profit, which is divided among the shareholders according to the number of shares they hold.
Earnings per share are considered for the previous four quarters. This is known as trailing Price to Earning Ratio. Again, EPS can also be taken from the assumptions of company’s profit in the coming quarters.
This assumption is known as forward Price to Earning Ratio. There is another process of determining earnings per share. This process considers the previous two quarters and the coming two quarters for the purpose.
The P/E Ratio provides a number of information about the movement of the stocks in the future. When the Price to Earning Ratio is very high then it represents that the market is expecting higher growth in earning and the company is also going to develop. On the other hand, low P/E Ratio represents less option of growth in the income.
At the same time, the Price to Earning Ratio is not the single factor that is related with assuming the performances of a company in the future. However, the ratio is useful enough for the purpose. Through Price to Earning Ratio the companies of the same sector can be compared. On the other hand, the ratio has no use if it is used to make comparison between two companies from different sectors.
Last Updated on : 27th June 2013