Price to Earnings Ratio (PER)

What is Price to Earnings Ratio?
Let me explain it in a very simple term.
Imagine your good friend is offering you his restaurant business. His business is running smoothly. They have good workers, strong sales and solid income. In fact, it make more money than any other restaurant did in your country. You fall in love to that business and can’t wait to grab the offer. So, how much should you pay for that business?
Most stock investors have this kind of dilemma.

The price you have to pay to acquire the business is known as market capitalisation. This can be calculated by multiplying the number of outstanding shares with its current price per unit share.

For me, this is the last stock I would invest in!

One way that able to help you discovering how much the stock worth is by looking at its Price to Earning Ratio.

It is commonly known as PER or P/E. It can be calculated as

Price to earnings ratio can be considered as an important parameters in stock investment as it give us a quick look of how expensive a stock is. It indicate how many times the price is multiple when compared to its earnings.

For example, PER of 16.7 would mean that the share price is 16.7 times larger than its current earnings. Assuming the stock had consistent earnings and EPS (or 0 per cent EPSGR), it would take 16.7 years for the stock’s earning to be equivalent with the current stock price.

In other words, if the PER is 16.7 and its EPS is $1.5 annually, you’ll need 16.7 years or to get back your money of $25.

Higher price to earnings ratio means more expensive the stock is. And normally, PER rises in tandem with the stock price. Meaning that, when a stock price rises, the PER will rise too and vice versa.

Analyst will compare PER from one stock to another within the same industry. You can easily compare how one stock is favoured by stock investors than the others by comparing their PER.

Since high quality stocks is commonly favoured by stock investor, they are normally high in its PER. Stock investor have to pay premium investing in this high quality stock as the demand for it is relatively high.

Analyst are also frequently compare its PER with other stock in other countries. This is a practice to discover which market are still offering cheaper stocks from relatively lower PER. In fact, they are also use it as a reminder if certain stock market is overvalued by investors.

This is the market with very high in average price to earnings ratio.

How I use price to earnings ratio?

Only if they pass all my ROE, EPSGR and D/E test, I will buy stock with lower PER.

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Related Financial Ratio

Return on Equity (ROE), Debt to Equity Ratio (D/E),
Earnings Per Share Growth Rate (EPSGR), Profit Margin,
Earnings Per Share (EPS)

Efficiency Ratio, Liquidity Ratio, Leverage Ratio, Profitability Ratio,

Related Book

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