What is Price-Earning Ratio?

Price-Earning Ratio is calculated as (Current share price)/(Earnings per share). Price-Earnings ratio is also called price to earnings ratio (or price multiple), and we usually write P/E. P/E ratio can be calculated if we divide market capitalization with earnings after taxes for the previous 12 months. If earnings are 0 or negative then we cannot calculate P/E ratio. P/E ratio generally reflects how much the market is willing to pay for each dollar from earnings. For example, if P/E ratio is 15 then investors are willing to pay 15$ for each dollar of earnings.

P/E ratio gives us the connections between the market price and company's profit. If price is getting higher and profit is also getting higher, then P/E ratio stays the same (more or less). On the other hand, if price is getting higher and earnings stays the same (earnings change quarterly) then recent profit is not the main factor of price. That usually means that investors expect more profit in the future.

There are several aspects of P/E that should be considered when investing in a certain shares: historical P/E ratio of the company and average of P/E ratio for the industry. Also, projection of P/E for the following period is interesting. Raising P/E through recent history, for example, can show that there is increasing willingness of investors to buy shares of that company. On the other hand, if P/E is getting lower, that means that investors tend to avoid buying that company. Also, if P/E of a company is higher than average for the industry, that would mean that share is relatively expensive, and vice versa, if P/E of the company is lower then average for the industry then that share is relatively cheap. Of course, it is necessary to consider other fundamentals.