This article is written for those who want to get better at using price to earnings ratios (P/E ratios). To keep it practical, we’ll show how Quess Corp Limited’s (NSE:QUESS) P/E ratio could help you assess the value on offer. Quess has a P/E ratio of 37.31, based on the last twelve months. That means that at current prices, buyers pay ₹37.31 for every ₹1 in trailing yearly profits.

See our latest analysis for Quess

How Do You Calculate Quess’s P/E Ratio?

The formula for P/E is:

Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)

Or for Quess:

P/E of 37.31 = ₹652.25 ÷ ₹17.48 (Based on the year to September 2018.)

Is A High P/E Ratio Good?

A higher P/E ratio means that buyers have to pay a higher price for each ₹1 the company has earned over the last year. That isn’t a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business’s prospects, relative to stocks with a lower P/E.

How Growth Rates Impact P/E Ratios

P/E ratios primarily reflect market expectations around earnings growth rates. That’s because companies that grow earnings per share quickly will rapidly increase the ‘E’ in the equation. That means unless the share price increases, the P/E will reduce in a few years. A lower P/E should indicate the stock is cheap relative to others — and that may attract buyers.

Quess’s earnings per share fell by 3.7% in the last twelve months. But over the longer term (5 years) earnings per share have increased by 33%.

How Does Quess’s P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. You can see in the image below that the average P/E (13.2) for companies in the professional services industry is lower than Quess’s P/E.

Quess’s P/E tells us that market participants think the company will perform better than its industry peers, going forward. Shareholders are clearly optimistic, but the future is always uncertain. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.

Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits

The ‘Price’ in P/E reflects the market capitalization of the company. That means it doesn’t take debt or cash into account. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.

Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).