With this PEG ratio calculator (Price/Earnings to Growth ratio), you can easily calculate the PEG ratio of a company before making your investment. The PEG ratio, also known as the price/earnings to growth ratio, is a very widely used investment metric to analyze a company's attractiveness for investment.

This article will help you to understand the following topics:

  • What is PEG ratio?;
  • How to calculate PEG ratio?; and
  • How to apply the PEG ratio formula and PEG ratio theory in real life?

Furthermore, we will also show you some examples to help you understand the PEG ratio meaning and what a good PEG ratio is. But first, let's make sure we understand the concept of this metric.

What is PEG ratio? The PEG ratio meaning

Price/earnings to growth ratio, or PEG ratio in short, is a measure that compares the company's stock price with its earnings and expected growth rates. It can be interpreted as the price that investors are willing to pay for $1 of earnings given 1% of the expected growth rate.

Unlike the famous P/E ratio, the PEG ratio take the growth rate of the company into account. Hence, it can provide a more well-rounded picture of how attractive investing in a company is. Don't worry if this is not clear, the example below will clearly demonstrate the concept.

How to calculate the PEG ratio? What is a good PEG ratio?

Calculating the PEG ratio is not complicated. There are only 5 steps in the process. Let's take Company Alpha with the following reported information as an example:

  • Price of stock: $20.00;
  • Latest earnings: $15,000,000;
  • Number of shares outstanding: 10,000,000;
  • Retention rate: 60%; and
  • Return on Equity (ROE): 8%.

With this information, we are ready to explain how to calculate PEG ratio:

  1. Determine the price of the company's stock

This can be done easily as the data is readily available. Search it on Google or get it from financial websites such as Yahoo Finance, Bloomberg, or the Financial Times. In our example, the price of Company Alpha stock is $20.00.

  1. Compute the earnings per share (EPS) of the company

The most direct way to access this information is to read the companies annual report. We can calculate it as:

earnings per share = earnings / number of shares outstanding

In this example, the EPS of Company Alpha is $15,000,000 / 10,000,000 = $1.50.

  1. Calculate the P/E ratio

Using the stock price and earnings per share, calculating the P/E ratio can be done using the formula below:

P/E ratio = stock price / earnings per share

Hence, the P/E ratio in our example is $20.00 / $1.50 = 13.⅓x.

  1. Calculate the earnings growth rate of the company

Calculating the company's growth rate requires 2 inputs, namely the retention rate and the return on equity (ROE) of the company. The formula to calculate the earnings growth rate is:

earnings growth rate = retention rate * return on equity

In this example, the earnings growth rate of Company Alpha is 60% * 8% = 4.8%.

  1. Calculate the PEG ratio

Finally, we can calculate the PEG ratio given the information we have. The PEG ratio formula is shown below:

PEG ratio = P/E ratio / earnings growth rate

Thus, the PEG ratio of Company Alpha is 13.33 / 4.8% = 2.778x.

Things to pay attention to when implementing the PEG ratio theory

The price/earnings to growth ratio (PEG ratio) is a very powerful investment metric to help you form your investment decisions. However, there are a few things that are important for you to keep in mind.

  • The PEG ratio takes into account the earnings growth rate

When comparing the P/E ratio of 2 different companies, it is hard to tell if one P/E ratio is higher because it is overvalued or because investors believe in its future earnings growth. PEG ratio is calculated to solve this exact dilemma. By dividing the P/E ratio by the earnings growth rate, we can now compare the metrics at the same level of growth.

  • The PEG ratio does not take into account risks

Although the PEG ratio considers the growth of earnings, it still does not take risk into the equation. For instance, one company may have a lower PEG ratio not because it is undervalued but because it is perceived as having lower risks when compared to its peers.

Therefore, it is essential to carry out a more holistic due diligence and investment analysis before making your investment decisions instead of relying on just one particular investment metric.

Wei Bin Loo
P/E ratio
Price per share
$
Earnings per share
$
P/E ratio
x
Earnings growth
Retention rate
%
Return on equity (ROE)
%
Earnings growth
%
PEG ratio
PEG ratio
x
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