A P/E ratio of 30 means that a company’s stock price is trading at 30 times the company’s earnings per share. The P/E ratio (price-to-earnings ratio) is the valuation ratio of a company’s market value per share divided by a company’s earnings per share (EPS).
At the most basic level, a P/E ratio identifies for one dollar of earnings what investors are willing to pay for one unit of stock. For instance, a business said to be trading at a P/E ratio of 30:1 would indicate investors are willing to pay $30 in market price for every $1 in earnings. As a relative value indicator, investors can get a sense of which securities are trading (or priced) richly relative to other businesses that may offer a better bargain for the same level of risk.
A P/E of 30 is high by historical stock market standards. This type of valuation is usually placed on only the fastest-growing companies by investors in the company’s early stages of growth. Once a company becomes more mature, it will grow more slowly and the P/E tends to decline.
In financial circles, the P/E ratio is often a hot topic, with analyst and market prognosticators opining on market trends and whether P/E ratios are higher or lower than historical norms. Although the measure still enjoys a fair amount of attention, insiders know it can be gamed. As such, a number of extensions and alternative metrics have grown in importance. The digitization of companies and markets further complicates traditional interpretations of the ratio.
Investors often want to compare how the share price of one company compares to that of another. But just looking at the stock price is like comparing apples to oranges since companies have different numbers of shares outstanding, and even if they had the same share float, companies operate in different industry segments or are at different stages in the corporate life cycle. Fortunately, financial analysts have developed a number of tools for such purposes of comparison. The price-to-earnings ratio, or P/E, is one of the most widely used metrics.