A company has net income of $ 1,150,000. It also has 155,000 weighted-average common shares outstanding and a market value per share of $ 145. The company’s price-earnings ratio is equal to:
19.5
13.5
116.0
9.75
7.42
The correct answer and explanation is :
To calculate the Price-Earnings (P/E) Ratio, we use the formula:
[
P/E \text{ Ratio} = \frac{\text{Market Price per Share}}{\text{Earnings per Share (EPS)}}
]
Step 1: Compute Earnings per Share (EPS)
Earnings per share (EPS) is calculated as:
[
EPS = \frac{\text{Net Income}}{\text{Weighted-Average Common Shares Outstanding}}
]
Given:
- Net Income = $1,150,000
- Weighted-Average Common Shares Outstanding = 155,000
[
EPS = \frac{1,150,000}{155,000} = 7.42
]
Step 2: Compute the Price-Earnings Ratio
Now, using the market value per share of $145:
[
P/E \text{ Ratio} = \frac{145}{7.42} = 19.54
]
Rounding to one decimal place:
[
P/E \approx 19.5
]
Correct Answer: 19.5
Explanation:
The Price-Earnings (P/E) Ratio is a key valuation metric that helps investors determine how much they are willing to pay per dollar of earnings. A high P/E ratio generally indicates that the market has high expectations for a company’s future growth, while a lower P/E ratio may suggest lower growth expectations or an undervalued stock.
In this case, the company’s P/E ratio of 19.5 means that investors are willing to pay $19.50 for every $1.00 of the company’s earnings per share. This ratio is useful in comparing companies within the same industry to assess whether a stock is overvalued or undervalued.
Thus, based on the given data, the company’s P/E ratio is 19.5, making it the correct answer.