Calculate the price/earnings ratio
Compare market price per share with earnings per share and explain what the multiple can and cannot indicate.
Exam scope and assessment notes
Cambridge International AS & A Level Accounting 9706, 2026–2028 syllabus, Version 2. Use the ratio formulae in the syllabus appendix exactly; Cambridge states these are the only formulae accepted. Use year-end balances where appropriate unless the question specifies averages, and round to the requested number of decimal places. Practice is self-checked, not an official Cambridge grade. Full timed Papers 1–4 and human subject-teacher review remain outstanding.
Before you begin
- Use the AS Topic 1.6 ratio, financial-statement and stakeholder skills. These lessons add only the A Level ratios and interpretation required by Topic 3.5.
Work on paper. Try each question before revealing help, and explain why your method works.
Quick readiness check
Market price is $3 and EPS is $0.50. What is P/E?
What you will learn
- Calculate market price per share ÷ EPS
- Report the result in times
- Interpret the market multiple cautiously
Use EPS as the denominator
Price/earnings (P/E) = market price per share ÷ earnings per share. Use the EPS calculated from profit for the year and issued ordinary shares, and keep both per-share figures in the same currency units.
A P/E of 8 times means the market price is eight times the current EPS used. If EPS is zero or negative, this simple ratio is not meaningfully calculated as a positive earnings multiple; explain the limitation instead of forcing a result.
Treat the market price as an expectation measure
A higher P/E may reflect expected growth, lower perceived risk or overvaluation; a lower P/E may reflect weak prospects, higher risk or undervaluation. The ratio alone cannot distinguish these explanations.
Compare with similar companies and the company's own history, then consider earnings quality, dividends, risks and market conditions. P/E uses current EPS but a market price shaped by investor expectations.
Pause and explain
What does a P/E of 10 times mean mathematically?
Worked example
The market price is $2.40 per share and EPS is $0.30 per share. Calculate P/E.
Show the worked solution
- Use the same currency unit for both per-share amounts.
- $2.40 ÷ $0.30 = 8.
- Report the P/E ratio as 8 times.
Answer P/E is 8 times.
Try a topic test
Choose Easy, Normal or Difficult. Save your answers and open worked review after finishing.
Test this topic →From guided practice to a new situation
Write your answer and reasoning first. Use a hint only if you are stuck. The model solution is for self-checking; your written work is not automatically marked.
A share trades at $4.50 and EPS is $0.75. Calculate P/E and name one interpretation limit.
Give me a hint
Divide market price by EPS; then separate the calculation from its cause.
Compare my reasoning
- $4.50 ÷ $0.75 = 6.
- P/E is 6 times.
- The ratio alone cannot show whether the multiple reflects growth expectations or overvaluation.
P/E is 6 times; the cause of the market valuation needs other evidence.
Look for these in your work
- Use market price divided by EPS.
- Report the result in times.
- State that the ratio alone does not explain the market's expectations.
Two companies have the same EPS of $0.40. Company A's share price is $3.20 and Company B's is $4.80. Calculate both P/E ratios and compare without declaring a winner.
Give me a hint
Use the same EPS denominator for each company.
Compare my reasoning
- A: $3.20 ÷ $0.40 = 8 times.
- B: $4.80 ÷ $0.40 = 12 times.
- B has the higher multiple, but more evidence is needed to assess expectations, risk and value.
Company A's P/E is 8 times and Company B's is 12 times; the higher multiple is not by itself proof of better value.
Look for these in your work
- Calculate A's P/E as 8.
- Calculate B's P/E as 12.
- Avoid treating the larger multiple as an automatic recommendation.
A company reports a loss per share but has a positive share price. What should you say about P/E?
Give me a hint
The formula's denominator is negative, so a positive earnings multiple interpretation fails.
Compare my reasoning
- EPS is negative because the company reports a loss for the year.
- Dividing a positive price by negative EPS would create a negative quotient, not a conventional positive earnings multiple.
- Report P/E as not meaningful for this comparison and assess other evidence such as cash flow, balance-sheet risk and recovery prospects.
A conventional positive P/E is not meaningful with negative EPS. Explain the limitation and use other relevant evidence.
Look for these in your work
- Recognise the negative EPS.
- Do not interpret the negative quotient as a normal multiple.
- Use other measures and forward-looking evidence.
Common mistakes
- Using total market capitalisation rather than price per share
- Dividing EPS by market price
- Treating a high multiple as proof of strong future growth
What can you explain now?
Which formula is prescribed for P/E?
Compare with the explanation
Market price per share ÷ EPS
P/E compares the market price with earnings per share and is reported in times.
After trying it yourself, choose your next review. This is your self-assessment.
Your review choice appears on Today. Sign in to sync it across devices.
Make it stick
Write the P/E formula and explain why negative EPS limits its interpretation.
If you needed the solution, close it and solve the problem again from a blank page. A correct answer is stronger when you can explain the reason for each step.