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# What is the price to earnings ratio?

The price-to-earnings ratio helps investors to decide whether a stock is an expensive or cheap investment. It is calculated by dividing price per share by earnings per share and is one of the most widely used metrics.

Price-to-earnings puts a hard number on how many years of earnings will be required to pay for the purchase price. The p/e ratio does not take account for inflation. The cyclically adjusted price to earnings (CAPE) ratio does adjust for inflation.

Value

### Formula:

price to-earnings ratio = share price / earnings per share.

## How to interpret the price-to-earnings ratio

The higher this figure the more expensive the share – the more you are paying for each extra amount of earnings. The ratio is well-suited to comparing companies within the same sector.

The price-to-earnings ratio is the share price expressed as a multiple of earnings. For example, a stock can be said to be trading on a multiple of “23x earnings”.

The p/e ratio can assist in working out how expensive a share is, but it does not control for the different types of companies, from an industrial and business-model perspective.

For example, a growth company may have a high p/e ratio, where shareholders are willing to pay a high price today for low current earnings on the basis of reaping future higher earnings (and an increased return on capital from an expected appreciation of the company share price).

## What is the price-to-earnings ratio optimum reading?

FTSE 100 = 16

S&P 500 = 36.94

NASDAQ 100 = 35.86

The historic average p/e of the S&P 500 is 16.

## How to use the price-to-earnings ratio

This lesson makes use of the Stockopedia platform’s screener and other tools but these are not essential for successful completion.

Halfords 2 April annual report – go to the financial summary (under accounts if using Stockopedia) to find the data you need.

Calculate price to-earnings ratio: share price / earnings per share.

Find eps normalised in the financial summary (see screenshot below):

Normalised eps excludes the effects of non-recurring, one-off and extraordinary items.

eps (normalised) = 33.9 Halfords’ share price = 244 To calculate, divide price by earnings per share:

244 / 33.9 = 7.1

Halford price-to-earnings ratio = 7.1