The price-earnings ratio (P/E ratio) is a valuation measure that compares the level of stock prices to the level of corporate profits, providing investors with a sense of a stock’s value. To calculate a company’s P/E ratio, use the following formula:

P/E ratio = price per share / earnings per share (EPS)

Where EPS = earnings/total shares outstanding

As long as a company has positive earnings, the P/E ratio is calculated this way (a company with no earnings, or one which is losing money, has no P/E ratio). The stock price per share is set by the stock market, and the earnings per share value will vary, depending on the company’s financials and which earnings variant is used. Typically, EPS is taken from the last four quarters (trailing P/E; referred to as TTM for trailing twelve months), but it can also be taken from the estimates of earnings expected over the next four quarters (forward P/E) or some other variation. As a result, a company will have more than one P/E ratio, and investors must be careful to compare the same P/E ratio when evaluating different stocks.

To determine the P/E ratio, investors can divide the stock price by EPS. For example, Coca-Cola Co (KO) on June 18, 2014 traded at $41.56 per share with an EPS (TTM) of $1.87, so the P/E ratio would be:

  • Stock price ($41.56) / earnings per share ($1.87) = 22.22

This essentially means that investors are willing to pay $22.22 for every dollar of earnings that KO has. For comparison, Pepsico Inc (PEP) on the same day traded at $88.90 per share with an EPS (TTM) of $4.43 and a P/E ratio of 20.31. The average P/E ratio for companies in the Beverage sector is about 20.26, and, historically, the average P/E ratio for the broad market has been around 15. KO, therefore, has a higher P/E ratio than both the sector and broad market average, as well one of its competitors, PEP. This higher P/E ratio might mean that investors will expect higher earnings growth in the future compared to the overall market. The P/E ratio is only one valuation measure, however, and investors would have to dig deeper before making any investment decisions.

  1. How can the price-to-earnings (P/E) ratio mislead investors?

    The price-to-earnings (P/E) ratio is calculated by dividing a company’s stock price per share by its earnings per share (EPS), ... Read Full Answer >>
  2. Does working capital measure liquidity?

    Working capital is a commonly used metric, not only for a company’s liquidity but also for its operational efficiency and ... Read Full Answer >>
  3. Can working capital be negative?

    Working capital can be negative if a company's current assets are less than its current liabilities. Working capital is calculated ... Read Full Answer >>
  4. How do I read and analyze an income statement?

    The income statement, also known as the profit and loss (P&L) statement, is the financial statement that depicts the ... Read Full Answer >>
  5. Does working capital include prepaid expenses?

    The calculation for working capital includes any prepaid expenses that are due within one year, since such prepaid expenses ... Read Full Answer >>
  6. Does working capital include short-term debt?

    Short-term debt is considered part of a company's current liabilities and is included in the calculation of working capital. ... Read Full Answer >>
Related Articles
  1. Fundamental Analysis

    5 Reasons Old Tech Is Soaring

    New names may be popular, but old tech is still the place to put long-term money. Find out why.
  2. Forex Education

    6 Basic Financial Ratios And What They Reveal

    These formulas can help you pick better stocks for your portfolio once you learn how to use them.
  3. Markets

    Understanding The P/E Ratio

    Learn what the price/earnings ratio really means and how you should use it to value companies.
  4. Investing

    How Worried Should We Be About China?

    An economic slowdown, a freezing up in trade and plunging markets and currencies are casting a shadow across Asia—and the globe. How worried should we be?
  5. Stock Analysis

    The Biggest Risks of Investing in Netflix Stock

    Examine the current state of Netflix Inc., and learn about three of the major fundamental risks that the company is currently facing.
  6. Stock Analysis

    What Seagate Gains by Acquiring Dot Hill Systems

    Examine the Seagate acquisition of Dot Hill Systems, and learn what Seagate is looking to gain by acquiring Dot Hill's software technology.
  7. Investing

    What is EBITA?

    EBITA measures a company’s full profitability before reducing it by interest, taxes and amortization considerations, and so is useful for calculating a company’s internal efficiency or profitability ...
  8. Investing

    A Look at 6 Leading Female Value Investors

    In an industry still largely predominated by men, we look at 6 leading female value investors working today.
  9. Term

    What Is Financial Performance?

    Financial performance measures a firm’s ability to generate profits through the use of its assets.
  10. Stock Analysis

    The Biggest Risks of Investing in FireEye Stock

    Examine the current state of FireEye, Inc., and learn about some of the biggest risks of investing in this cybersecurity company's stock.
  1. Price-Earnings Ratio - P/E Ratio

    The Price-to-Earnings Ratio or P/E ratio is a ratio for valuing ...
  2. Qualitative Analysis

    Securities analysis that uses subjective judgment based on nonquantifiable ...
  3. Profit and Loss Statement (P&L)

    A financial statement that summarizes the revenues, costs and ...
  4. Liquidity

    The degree to which an asset or security can be quickly bought ...
  5. Interest Coverage Ratio

    A debt ratio and profitability ratio used to determine how easily ...
  6. Receivables Turnover Ratio

    An accounting measure used to quantify a firm's effectiveness ...

You May Also Like

Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!