Larry McClanahan, Financial Advisor
Earnings per share (EPS) simply tells you how much the company earned (per share of stock) in the latest reporting period.
For example, let's say that XYZ Corporation has 100 million shares of stock outstanding. Let's further say that it earned $200 million in profit over its latest 12-month reporting period. Then XYZ Corp's EPS would be $2.00 per share.
EPS tells you nothing about whether or not a stock is a good buy…because we haven’t yet factored in the stock’s price.
The Price-to-Earnings (PE) Ratio is used to measure the company's current stock price in relation to recent EPS. For example, if XYZ Corporation's stock price today is $50.00 per share, then we say that XYZ Corp has a PE of 25 ($50.00 divided by $2.00).
Another way of thinking about the PE ratio is: if XYZ Corp were to earn the same $2.00 per share every year into the future, it’d take 25 years for you to cover in earnings what you paid for one share of the stock (at the current fictitious price).
There’s considerable difference of opinion—reaching religious fervor—among advisers and investment managers as to what constitutes “good value” in a stock, appropriate PE ratios, time frames for measuring, and so on.
Hope that helps.
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