The price-to-earnings ratio(P/E) is the ratio for valuing a company that measures its current share price relative to its earnings per share (EPS).
For example, a Corporation/INC closed out the year 2000 with the following stats:
Stock Price = $30.00
Diluted EPS = $2.0
P/E = ($30.00 / $2.0) = 15
1. Is It Better to Have a Higher or Lower P/E Ratio?
A higher P/E Ratio means the company is growing bigger so the stock could be more expensive! The lower P/E ratio means two things: first, the company could be undervalued or underestimated on its price so you can buy a cheat stock with a reasonable price. Second, it means the company is fundamentally in decline, so the apparent bargain price might be an illusion.
2. What Does a P/E Ratio of 10 Mean?
It means the current market value of the company is equal to 10 times its annual earnings. Assuming that you buy 100% of the company’s shares, it would take 10 years for you to earn back your initial investment assuming the company stays the same earning in the future.
3. Why Is the P/E Ratio Important?
The P/E ratio helps investors determine whether the stock of a company is overvalued or undervalued compared to its earnings. The ratio is a measurement of a market that the investors are whether willing to pay for the prospective growth of a company or not. If a company is trading at a high P/E ratio, the investors think highly of its growth potential and are willing to overspend today based on future earnings.