Question

Τhe P/E (price to earnings) ratio show us the expected price of a stock based on its earnings. Investors tend to invest in a company with a high P/E ratio and buy its shares. On the other hand, reported earnings are often reconstructed by the companies by using some accounting techniques in order to attract investors. Which are those accounting techniques which can artificially help companies change the P/E ratio trend line?

Answer 1

The accounting techquines which can artificially help companies change the p/e ratio trend line are as follows :-

1. The p/e ratio can be calculated by different formulas that they can change the p/e ratios with different interpretation and those formulas are

P/e ratio = stock price per share ÷ earning per share

P/e ratio = market capitalization ÷ total net earnings

P/e ratio = dividend pay out ratio ÷ (R - G)

R = Required rate of return

G = sustainable growth rate

So by using different formulas they may change p/e valuation.

2. The people change the valuation of price per share and earnings per share. In this case every one knows the price per share in market but earnings per share can be calculated by different method example basic EPS and diluted EPS.

3. To change p/e ratio the accountants may change the some accounting values like increase the value of turnover by increasing debtors to this leads to raise in total earnings and raise in earnings per share .

4. Increase in EPS leads to automatically increase in p/e ratio

5. Some companies make stock split by this price per share decreases and earnings remain same so this leads to increase in p/e ratio.

These are some of the techniques to increase the p/e ratio to attract the investors.

I hope, all the above given points and explanations are useful and helpful to you.

Thank you.