Trailing Price-To-Earnings Trailing P E Definition and Example

Trailing Price-To-Earnings (Trailing P/E): Definition and Example

What Is Trailing Price-To-Earnings?

Trailing price-to-earnings (P/E) is a relative valuation multiple based on the last 12 months of earnings. It is calculated by dividing the current stock price by the trailing earnings per share (EPS) for the past 12 months.

Trailing P/E can be contrasted with forward P/E, which uses projected future earnings to calculate the price-to-earnings ratio.

Key Takeaways

• The trailing price-to-earnings ratio compares a company’s share price to its past year’s earnings per share.
• Trailing P/E is a useful indicator to standardize and compare share prices over time and among companies.
• However, it is limited because past earnings may not accurately reflect the current or future earnings situation of the company.

Understanding Trailing Price-To-Earnings (P/E)

The price-earnings ratio, or P/E ratio, is calculated by dividing a company’s stock price by its earnings from the most recent fiscal year. When referring to the P/E ratio, people typically mean the trailing P/E. It is calculated by dividing the current market value, or share price, by the earnings per share (EPS) over the previous 12 months.

The earnings for the most recent fiscal year can be found on the income statement in the annual report. Divide the company’s current stock price by this number to get the trailing P/E ratio.

Trailing P/E Ratio = Current Share Price / Trailing 12-Month EPS

This measure is considered reliable because it is based on actual performance. However, past earnings may not always predict future earnings accurately, so caution is necessary.

Why Do Analysts Use P/E?

Analysts like the P/E ratio because it allows for a comparison of relative earnings. The P/E ratio can be used to identify bargains in the market or determine when a stock is overpriced. Some companies deserve a higher P/E multiple due to economic advantages, while others with high share prices relative to earnings are simply overpriced. Likewise, some companies deserve a lower P/E because they represent a great bargain, while others have a low P/E due to financial weakness. Trailing P/E helps analysts match time periods for a more accurate measure of relative value.

A disadvantage of the P/E ratio is that stock prices are constantly changing, while earnings remain fixed. Analysts use the trailing P/E ratio, which uses earnings from the most recent four quarters, to address this issue.

Example of Trailing Price-To-Earnings

For example, a company with a stock price of $50 and 12-month trailing EPS of $2 has a trailing P/E ratio of 25x. This means that the company’s stock is trading at 25x its trailing 12-month earnings.

Using the same example, if the company’s stock price falls to $40 midway through the year, the new P/E ratio is 20x, indicating that the stock is now trading at only 20x its earnings.

Earnings for the last two quarters may have also dropped. In this case, analysts can substitute the first two quarters of the fiscal year calculation with the most recent two quarters for a trailing P/E ratio. If earnings in the first half of the year are trending lower, the P/E ratio will be higher than 20x, indicating that the stock may be overvalued given its declining earnings.

Trailing vs. Forward P/E

The trailing P/E ratio differs from the forward P/E, which uses earnings estimates for the next four quarters. Forward P/E can sometimes be more relevant to investors when evaluating a company. However, it is prone to miscalculation or bias. Companies may also underestimate or misstate earnings to beat consensus estimates in quarterly reports.

Both ratios are useful during acquisitions. The trailing P/E ratio represents past performance, while forward P/E represents future guidance. Typically, valuations of the acquired company are based on the latter ratio. However, an earnout provision can be used to lower the acquisition price, with an additional payout if the targeted earnings are achieved.

Both ratios are useful during acquisitions. The trailing P/E ratio represents past performance, while forward P/E represents future guidance. Typically, valuations of the acquired company are based on the latter ratio. However, an earnout provision can be used to lower the acquisition price, with an additional payout if the targeted earnings are achieved.