The P/E ratio is used by investors to help decide if they should buy a stock.Potential investors are told how much they have to pay for every dollar of earnings by the P/E ratio.One pays less for every $1 of earnings with a low P/E ratio.Companies with higher P/E ratios are more likely to see higher earnings growth in the future.The article gives guidance on calculating the PE ratio and using it to analyze stocks.
Step 1: Know the formula.
The market value per share is the formula for calculating the price-earnings ratio.P is the market price and earnings per share are represented as the equation.
Step 2: The market price can be found.
Market price is one of the variables used in the P/E equation.Market value per share is how much it costs to buy a share of a publicly traded company.It cost $103.94 to buy one share of Facebook on November 4, 2015.You can find a stock's current price by searching online, either for its stock symbol (usually four or fewer letters) or the full name of the company.The P/E ratio of a company can change with stock prices.When choosing a market price to use in your calculation, don't worry about choosing any averages, highs, or lows of the stock price; the current price will work fine.When you are comparing the P/E ratios of two different companies, you don't need to choose a specific price.The same approximation should be found for both companies if it is the opening price on a certain day or the current price at this minute.
Step 3: Find the earnings per share.
The trailing P/E ratio is used by financial analysts.The earnings per share is calculated by taking a company's net income over the last four quarters and dividing by the number of shares outstanding.They can use a projected P/E ratio that uses expected earnings over the next four quarters.It is easy to find the earnings per share on finance websites as a part of a freely available stock report.The formula for calculating earnings per share is as follows: Net Income - dividends on preferred stock and average outstanding shares of common stock.The number of shares being traded at the end of the period is what some sources use.Different sources may report different values for the same company because of slight variations in formula.These are averaged together to produce an average earnings per share.
Step 4: The price/ earnings ratio is calculated.
Simply input your values to calculate the P/E ratio once you have the formula and two variables.Let's use a real publicly-traded company.On November 5, 2015, Yahoo! was Inc.The stock price was 35.14.The first part of our equation is the numerator.It's the earnings per share.You can type "Yahoo!".If you don't want to calculate it yourself, use a search engine.On November 5, 2015, Yahoo!The profit was $.25 per share.Divide 35.14 by 25 to get 140.56Yahoo!The price-earning ratio is 141.
Step 5: The P/E can be compared to other companies.
The number doesn't tell you anything unless you compare it to other companies' P/Es in the same industry.Although this analysis alone won't tell you whether to buy a company, companies with lower P/Es are considered cheaper to purchase.Stock ABC is trading at 15/share and has a P/E of 50.Stock XYZ has a P/E of 35.Even though Stock ABC's share price is higher, it is cheaper to buy Stock XYZ.One pays $35 for every $1 of earnings, whereas with Stock ABC, one pays $50.It's pointless to compare P/E ratios between unrelated companies.The companies compared must be very similar in size and sector to be comparable using P/E ratios.
Step 6: Know that investors' expectations of a company's value can affect P/Es.
Although P/E is often thought of as an indicator of how the company has been priced in the past, it's also an indication of what investors think of its future.Stock prices are a reflection of how people think a stock will perform in the future.Companies with high P/Es are more likely to have higher earnings growth in the future.A company with a low P/E may be doing better now than it has been in the past.The P/E shouldn't be the sole factor in deciding whether or not to buy a stock.
Step 7: Debt can artificially lower a company's P/E.
Taking on a lot of debt lowers a company's P/E ratio.Higher debt can lower investors' willingness to pay a higher price for the stock, but leverage can increase a company's earnings and thus increase the PE.If profits fall, the portion that goes to stockholders is reduced because debt holders will have to be paid first.The company with a moderate debt load will have a lower P/E ratio than the one with no debt.P/E can be used to diagnose a company's vitals.If the company takes on more debt and has a lower P/E, it can experience higher earnings because of the risky debt it has incurred.