UNDERSTANDING THE P/E RATIO

Mrs. Purdy

April 7, 2013

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In your notebook, please answer the following

questions:

1.What is the Market Value of Target?

2.What is Target’s P/E Ratio?

3.What is Target’s EPS?

Please Do Now…

What is the P/E Ratio?How can we use the P/E

Ratio?Problems with the P/E Ratio.Buy or Sell?

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TODAY’S GOALS

• Blue Chips• Earnings• Earnings Per Share (EPS)• Short Selling• P/E Ratio

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DEFINITIONS TO KNOW

The ratio of a company’s share price to its per-share earnings.

As the name implies, to calculate the P/E you simply take the current stock price and divide by its EPS(earnings per share):

P/E Ratio=Market Value per Share (Price)Earnings per Share (EPS)

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WHAT IS THE P/E RATIO?

At the end of the trading day, ABC stock closed at a price of $36.95 per share. ABC announced earnings of $1.80 per share for the year. What will the P/E ratio be for ABC?

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SOLUTION:P/E Ratio=Market Value per Share/EPS

P/E Ratio=$36.95/$1.80

P/E Ratio=20.53

LET’S PRACTICE…

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P/E Ratio=20.53

Simply put, this means that investors are willing to pay $20.53 for every $1 of earnings the company generates.

What does a P/E Ratio of 20.53 mean??!! THINK!!

HOW CAN WE USE THE P/E RATIO?

Not just past performance

Market expectations for a company’s growth

Indication of the value of a stock

P/E ratio is much better than market price alone

CHEAP OR EXPENSIVE?

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HOW CAN WE USE THE P/E RATIO?

But…two main factors to see if a P/E is high (over-valued) or low (under-valued)…

1. Company Growth: Low growth but high P/E = overpriced! Ex: Microsoft went from P/E = 100 late 1990s to 43 by June of 2002.

2. Compare companies in the same industry. Ex: Utilities = low growth, stable. P/E ratios by industry on Yahoo! Finance.

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HOW CAN WE USE THE P/E RATIO?

Accounting

Inflation

Various interpretations

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PROBLEMS WITH THE P/E RATIO?

The P/E ratio is not the only variable we look at when deciding to buy or sell a stock!!

There are many other data variables that help us analyze stocks such as the peg ratio, book value & growth rate.

If you want to find out more about analyzing stocks, take the wealth management course!

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BUY OR SELL?

Next, we will be learning about Brokers & Online Trading

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A LOOK AHEAD

QUESTIONS???

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