Discussion (200 words): The Peg Ratio (price-earnings-growth) appears to be a refinement that allows us to do what? Is the ratio aptly named? Explain and discuss.
Respond to these two classmates’ discussion post (50-100 words for each response):
Discussion post 1: The PEG ratio stands for price/earnings-to-growth ratio which is the stock’s P/E ratio divided by the growth rate of the earnings for a specific time period. The Peg ratio was developed to factor in the projected growth rate of future earnings from the standard P/E ratio. The Peg ratio can allow investors a better assessment at how fast a company is growing thus providing us a better picture of a company’s value than only using the P/E ratio alone. The interpretation of the ratio is as followed, when the ratio results in 1 or lower, it means the stock is either at par or undervalued and if above 1, the stock is overvalued relative to the growth rate. Generally, when using the Peg ratio, the higher return for investors are companies that have a faster growth rate. If comparing two companies, one company has a growth rate of 5% and the other has a growth rate of 10%, through the peg ratio, it takes into account a company’s earning growth whereas p/e ratio does not and the company with 10% growth would be the better investment for investors.
Peg ratio does provide more meaningful information regarding the value of a stock or two similar stocks because of the added factor of growth potential. Although the peg ratio can allow investors another instrument to value stocks, it may not be a completely reliable ratio. Other metrics should be used to value a stock along with the peg ratio for proper valuation. The reason the peg ratio can carry risks is because the factor of future earnings growth potential is an estimation which creates uncertainty within the overall ratio. I believe it is aptly named as the peg ratio because it compares a company’s P/E ratio to the expected rate of growth to assess a stock’s value.
Discussion post 2: The PEG ratio (Price/Earnings to Growth Ratio) is a valuation metric that looks at the price of a stock, the earnings per share, and also the company’s growth potential. The Price/Earnings ratio is generally higher for a company that has a higher growth rate. Using the P/E ratio would make companies with significant amounts of growth appear overvalued when compared to others. The assumption that incorporating a company’s growth rate, the ratio is going to be better for comparing companies with various growth rates. A PEG ratio of 1 supposedly represents a fair trade-off between cost and growth, which indicates that a stock is reasonably valued with the expected growth rate. A PEG ratio between 0 and 1 might suggest that the company might provide higher returns.
Yes, I think that the ratio has been aptly named. Investors might prefer the PEG ratio because it’s putting a value on the company’s expected growth earnings. The PEG ratio gives investors insight into a company’s high P/E ratio because it looks at a high stock price and incorporates the expected growth for the company.
Assignment (1-2 double space): There are various limitations to employing the PE Ratio for company to company comparisons. Describe several of the limitations. A better measure would be to employ the PEG Ratio, how would you calculate?