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The Game of P/E Ratio.

What is P/E ratio?

If you are not new to the stock market you can already skip this question, but if you are new.

The Price to Earnings Ratio or (P/E) is likely to say if you buy some asset at a particular price and in turn how much money was made by that asset in a particular time period.

Let’s take some examples in common language way

11)      Considering you are a Milk seller and you bought a cow whose milk you will sell in future.

So in turn your cow is an asset and the milk she produces which you will further sell are your earnings.

22)      Let’s take another example this time you are a farmer who actually bought a land (Not sell) of fertile soil at a cost of Rs 2 LAKH and you grew any type of Crops onto it and you made an annual earnings of Rs 25,000. This means your Annual Price to earnings Ratio is (2,00,000/25000)=8 that means you earn 1 Rupee on every 8 rupees Invested.

33)      This time you are a real estate investor who buys Houses and set them on Lease for Rent, So your house is an Asset and the money you get from tenants in form of rent are your Earnings

Suppose you buy a Well Furnished Apartment at a cost of Rs 35 Lakhs and you collected a net amount of Rs 35,000*12=Rs 4,20,000, so now the P/E ratio of your Apartment is =(35,00,000/4,20,000)= 8.34. That means 1 Rupee earned on every 8 rupee 34 paise.

Now straight away Lets jump into our beloved Mr. Market of Stocks, If you find a stock with P/E evaluation of 20 that means every 20 Rupees invested a year ago have made 1 RUPEE FOR YOU, WHICH FURTHER MEANS only 5% of net earnings.

Is P/E ratio really worth an indicator?

Whatever the P/E ratio tells us is about its historical data, which means if a company was running successfully It will have a lower P/E Ratio, but in today’s date P/E ratio data may not be very helpful with the changing dynamics and the advent of new technologies every day, upon from that we’re living in an developing Nation, where we do not know when a so called Industrial Giant will be overtaken by a newcomer.

 If a company is not upgrading itself with the newer technologies, advanced management and Logistics, that company is simply going to get vanished. So we cannot really depend on the P/E Ratio of the company.

Still whenever you invest in a company remember a few points regarding P/E Ratio.

1.       The company is a legendary one and is at least 25 years old

2.       The company is a market leader.

3.       Has lower individual P/E Ratio than the Industrial P/E Ratio.

4.       Most Importantly The Annual P/E Ratio of the company has been lesser than 20 for the Past 10 years.[Ref:-‘”The Intelligent Investor”-Benjamin Graham ,Chapter 5, Pg:126]

Always Remember ‘Finding a Promising Company is only the first step in doing Research.

Analyze, Study its Financial Statement, estimate Business Value.