P/E Ratio — What It Is and How to Use It
The P/E ratio (Price to Earnings) is the stock price divided by annual earnings per share (EPS) — a number showing how many years of current profit investors are willing to pay for the stock at today's price.
The calculation is simple: stock price divided by EPS. A stock trading at $100 with $5 of annual earnings per share trades at a multiple of 20 — investors are paying 20 times current annual earnings. A higher multiple means the market is 'paying up front' for more future growth; a lower one means expectations are lower (or the stock is simply cheap relative to the profit it generates).
The ratio only becomes useful in comparison — against companies in the same sector, or against the company's own historical average. A fast-growing tech company can trade at a multiple of 40 and be considered reasonable, while a stable utility at a multiple of 40 would be considered very expensive — because these are sectors with completely different growth expectations.
The main limitation: P/E doesn't work for companies with negative earnings (a loss), since dividing by a negative number doesn't produce a meaningful result — in that case it's common to switch to other multiples (like price-to-sales) or to a DCF model.
How StockIQ AI uses this
In StockIQ's fair value category (15% of the score), the P/E ratio is one of three pricing signals checked — below 15 counts as a cheap signal, above 35 counts as an expensive one — alongside the DCF model and a net asset value (NAV) comparison.
Frequently asked questions
What is a good P/E ratio?
There's no universal 'good' P/E — it depends heavily on sector and growth expectations. A P/E under 15 is often considered cheap by traditional value-investing approaches, while high-growth sectors like software routinely trade at multiples of 30-50 or more without necessarily being overvalued, because the market is pricing in future earnings growth, not just this year's profit.
What does a negative P/E ratio mean?
A company with negative earnings (a loss) shows a negative or meaningless P/E ratio, since you can't meaningfully divide by a negative number. In that case P/E simply isn't a usable tool, and it's better to use other metrics like a price-to-sales multiple or a DCF model.
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The information on this page is intended for general educational purposes only and does not constitute investment advice. Full details on the disclaimer page.