Price-Earnings Ratio (P/E ratio)
Understanding the Price-Earnings Ratio (P/E Ratio): Evaluating Stock Valuation
The Price-Earnings Ratio (P/E ratio) is a financial metric used to evaluate the valuation of a company's stock relative to its earnings per share (EPS). It is a widely used measure by investors to assess whether a stock is overvalued or undervalued compared to its earnings potential.
P/E Ratio = Market Price per Share / Earnings Per Share (EPS)
Suppose Company ABC has the following financial details:
Market Price per Share: $50
Earnings Per Share (EPS): $5
To calculate the Price-Earnings Ratio:
Divide market price per share by EPS: 50/5=10
A P/E ratio of 10 indicates that investors are willing to pay $10 for every $1 of earnings generated by Company ABC. This suggests how investors perceive the company's growth potential and profitability.
Market Value Ratio