What is Price Earnings Ratio (F/K)?
What is Price Earnings Ratio (F/K)?
What is the Price Earnings Ratio?
Price earnings ratio is simply the ratio of the stock's price to its earnings per share. Stock price is the instantaneous value that occurs as a result of supply and demand on the stock exchanges to buy/sell the security in question. F/K is a financial ratio that measures the value of a stock based on earnings per share. The price earnings ratio, also called the profit multiplier, calculates how many times the relevant stock is worth its actual or estimated earnings per share.
Why is Price Earnings Ratio Important?
The price earnings ratio reflects the market's perception of the value of the company, depending on the actual profit or future earnings expectations. Reflecting the value of 1 unit of company profit, the F/K ratio calculates the amount the market must pay for one unit of actual or estimated company earnings. In other words, the value of the share price is measured in relation to profit.
F/K converts 1 unit of profit into a standard value, allowing stocks to be compared with their past performance in terms of actual or estimated earnings or with their competitors in the same industry. In this way, investors can identify stocks with high trading prices but relatively cheaper earnings per unit within the sector.
Price earnings ratio is generally calculated as the ratio of the publicly traded price of a stock to the company's annual profit per share. According to this definition, the price of the relevant stock is included in the numerator section. Earnings per share in the denominator is the ratio of the company's net profit, calculated after deducting annual dividend payments, to the number of existing shares.
F/K = Share Price / Earnings per Share
The alternative price earnings ratio calculation is the ratio of the company market value to annual net profit. According to this definition, the market value of the company is included in the share section. This value is calculated as the stock price multiplied by the number of shares traded or the company's paid-in capital. In the denominator, there is the annual net profit of the relevant company. It is possible to obtain this data from the 12-month balance sheet of the company in question or by annualizing the interim balance sheets.
F/K = Market Value of the Company / Annual Profit of the Company
How to Interpret Price Earnings Ratio?
Price earnings ratio shows the market value of a stock relative to its earnings. It is the valuation ratio used to determine whether a company has a premium or a non-premium relative to its earnings. In other words, it is a standard metric used to measure whether the share price is more or less than it should be compared to the annual profit (earnings per share) of the company in question. On the other hand, this rate; It also shows how many years it takes to recover the price paid for 1 unit of profit (initial investment).
F/K ratio can be any positive value. If the company realizes a loss, the P/E ratio is not calculated. Price/earnings value does not mean anything on its own. It can only be determined whether the relevant company has a premium/non-premium in terms of one unit of earnings by comparing the current P/E ratio of the company in question with the current P/E ratios of its competitors and the industry. On the other hand, comparing the current P/E ratio of the relevant company with historical price/earnings data is another comparison method used.
In simple terms, if the P/E ratio of company A is above the industry average and the rival company's P/E ratios, the stock is valued (in terms) or traded at a premium (expensive) compared to the company's earnings. In other words, you pay a higher price for one unit of profit of company A compared to its rival companies. On the other hand, if the P/E ratio of company B is below the industry average and the rival company P/E ratios, the stock in question is undervalued (in terms of) compared to earnings or is traded at a discount (cheap). In other words, you pay a lower price for one unit of profit of company B compared to its rival companies.
P/E converts 1 unit of profit into a standard value, allowing stocks to be compared with their past performance in terms of actual or estimated earnings or with their competitors in the same industry. The Price/Earnings ratio shows how much the market is willing to pay for that stock today, based on the last year's earnings.
“What should the P/E ratio be?” There is no answer to the question. However, a low P/E ratio is preferred. P/E ratio can be any positive value. This value is determined by two variables, namely the market value (or share price) of the company and the annual net profit (or profit per share). A P/E ratio of 1 means that the stock is priced at a one-to-one ratio with the company's earnings.
As mentioned before, the Price/Earnings value does not mean anything on its own. It can only be determined whether the relevant company has a premium/non-premium in terms of one unit of earnings by comparing the current P/E ratio of the company in question with its historical data or the current P/E ratios of its competitors and the industry.
