What is Profit&Loss (P&L) Statement ?

Definition : Also known as Income statement, is a financial statement which shows expenses and revenue of a company during a particular period, usually a fiscal quarter or year.
Read : What Is Balance Sheet ?
Income Statement helps to convey the status of a company i.e. Company is making profit or suffering losses. It is very important to read Income Statement of a company before investing, both of recent and past years.
Note : Revenue : Total amount received from sales of goods and services. Expenses : Total amount spend in producing final product or service.
Structure of P&L Statement  Income Statement is divided into Five main section - Net sales, Cost of Goods Sold, Gross Margin, Operating Expenses and Net Profit Before & After Income Tax (Or Net Loss in case of Loss).
Net Sales : It is the sum of Gross sales excluding its returns, allowances and discounts.Cost Of Goods Sold : Amount of money used to produce the final product. For example cost of inventory, merchandise purchased…

Definition Of Price To Earning Ratio (P/E ratio)

Price-Earning Ratio —P/E ratio

Definition : also known as price multiple, defined as the ratio of a company’s current stock price (market value) to the company’s Earning per share(Eps). In common words, P/E ratios tells us how much money a investor need to pay for one rupee of income.

Formula : 

  • P/E = Share Price ÷ Eps
Example : lets assume Stock price of a company Z is trading at ₹50 and EPS (TTM) is ₹5, then using equation
P/E = ₹50 ÷ ₹5
       = ₹10
Therefore, P/E ratio of company Z is ₹10.
Which simply means Investor is paying ₹10 for every ₹1 of earnings.

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Explained : 
P/E ratio is also called price multiple or earning multiple because it shows how much investor are willing to pay for per rupee of earning.

Generally High P/E ratio means either the stock is overvalued or investors are anticipating higher growth in the future. Alternatively, Low P/E ratio means either stock is undervalued or investors do not have good future expectations from that stock. But there could be other reasons also, so always look for reasons behind company’s increasing or decreasing P/E ratio. Companies with losses or no profit generally have undefined and negative P/E ratio.
Looking at P/E of a Stock tells you the value of the company’s stock but it is only useful when compared with company’s historical P/E pr the competitor’s P/E from the same industry. It is not easy to conclude whether a stock is Overpriced or cheap without performing any comparisons.

Justified P/E ratio : 

  • Justified P/E = Dividend Payout Ratio ÷ R-G
  • R - Required rate of return
  • G - Growth rate
It is used to find P/E ratio based on companies dividend, growth rate, required rate of return and retention policy.

Note : Investors get more optimistic during Bull Market, due to which P/E ratio are high during Bull Market.

Extras :
P/E ratio tells you, if a company pays all of its profit to its shareholders and shows constant performance in future, then how much approximate time it will take to recover the cost of buying share( i.e.investment).
For e.g. If P/E ratio is 5, it means that price of a share is 5 times its earnings. In other words, it will take you approximately five years through dividends plus capital appreciation to recover your investment.

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P/E ratio reflects the company’s future prospects, but choose wisely and always try to analyse deeply because sometimes even the P/E ratio of 25 or 30 may actually be lower if company is poised for meteoric future growth or even the P/ E ratio of 4 or 5 may can be high if company’s future indicates declining sales and large losses. If it is low compared to the future prospects of a company then shares are good for investment. But always remember not to rely on only one factor.
Blue-Chip companies often have P/E ratios that are high as 20 to 60. Most other companies in India have P/E ratios ranging between 5 and 20.

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