Key Terms
Price-to-earnings ratio
A company's share price divided by its earnings per share, showing how many years of current profit the price represents.
By the Investfora Research Desk
The price-to-earnings ratio is a company's share price divided by its earnings per share. The result states how many years of profit, at the current rate, the price is equivalent to: a ratio of ten means the price equals ten years of today's earnings per share. It is commonly used to compare how the market prices a pound of profit at one company against a pound of profit at another.
A worked example
A hypothetical company's shares trade at 240 pence and its earnings per share are 20 pence. The price-to-earnings ratio is 240 divided by 20, which is 12. Put the other way round, twelve years of earnings at the current level — 12 times 20 pence — add up to the 240 pence share price.
The ratio has sharp limits. It is meaningless when earnings are negative and unstable when they are close to zero. Earnings are an accounting figure, so one-off gains or charges can distort a single year badly. And the ratio compares today's price with one period's profit only: it says nothing about whether that profit will grow, shrink or repeat, which is precisely the question the comparison is usually asked to settle.