The PEG ratio formula
The PEG ratio is the P/E ratio divided by EPS growth: PEG ratio = (share price ÷ earnings per share) ÷ EPS growth rate. The P/E is the share price divided by earnings per share. The growth rate is the annual growth rate of earnings per share, as a plain number — 25 for 25% growth, not 0.25. The answer is a plain number: 1.00 means one unit of price for each unit of growth. Try the numbers on the PEG ratio calculator and it does the division for you.
Step 1: find the share price
Start with the market. The share price is what one share costs today — the price on the exchange, not the price you paid for it. Here is the worked example: a share price of $150.00. Use the price on the day you judge the stock.
Step 2: find the earnings per share
Start with the company’s accounts. Earnings per share is the profit each share earned — net income minus preferred dividends, divided by the shares outstanding. Here is the worked example: earnings per share of $6.00. Use the earnings for the same year as the growth rate, and use the earnings after tax, not before it.
Step 3: find the EPS growth rate
Start with the company’s last five years. The EPS growth rate is how fast earnings per share grew each year, on average — the growth the PEG divides by. Here is the worked example: growth of 25%. Use the growth rate as a plain number — 25 for 25% growth, not 0.25. Test a forecast against the last five years before you trust it.
Step 4: divide twice and read the answer
Divide the share price by earnings per share, then divide that by the growth rate. Here is the worked example: ($150.00 ÷ $6.00) ÷ 25 = 1.00. The arithmetic is $150.00 divided by $6.00, which is 25.00, and 25.00 divided by 25, which is 1.00, so the stock is fairly valued for its growth. The answer is a plain number — write it as 1.00.
Three worked examples
Example one — the headline numbers. A share costs $150.00, the company earns $6.00 per share, and earnings grow 25% a year. The P/E is $150.00 ÷ $6.00 = 25.00, and the PEG ratio is 25.00 ÷ 25 = 1.00. The price matches the growth, so the stock is fairly valued for its growth.
Example two — how high a price for a 1.50 PEG? The same company earns $6.00 per share and grows 25% a year, and you want a 1.50 PEG. The share price needed is 1.50 × $6.00 × 25 = $225.00 — the price for a 1.50 PEG on the earnings and growth it already has. The PEG ratio calculator runs the reverses for you.
Example three — how little earnings for a 1.50 PEG? The same company costs $150.00 a share and grows 25% a year, and you want a 1.50 PEG. The EPS needed is $150.00 ÷ (1.50 × 25) = $4.00 — the earnings for a 1.50 PEG on the growth it already has. Less earnings than that, and the PEG rises above 1.50.
One reverse to check your answer
Work the numbers backwards. A company earns $6.00 per share and grows 25% a year, and you want its PEG to reach 1.50. The smallest whole-cent share price for the PEG to reach the target is $225.00. A cent less, and the price falls short of the $225.00 needed. The PEG ratio calculator runs the reverses for you.
P/E vs growth
The P/E is what the market charges for the earnings — the share price divided by earnings per share — while the growth rate is how fast those earnings grow. They are the two halves of the PEG: the P/E is the “P” in the PEG, and the growth rate is the “G”. Here is the worked example: a P/E of 25.00 and growth of 25% give a PEG of 1.00. Where to find them: the share price on the exchange, the earnings per share in the company’s accounts, and the growth rate from the last five years of earnings or from analyst forecasts.
What a PEG below 1.00 means
A PEG below 1.00 means the price is below the growth — the market is charging less than one unit of price for each unit of growth. It can mean the market is pricing in slower growth than the forecast — the forecast says the earnings will grow, and the market does not believe it — or it can mean the stock is cheap for its growth. A PEG below 1.00 is not a buy signal on its own: check whether the growth forecast is real and whether the earnings are clean.
What a PEG at 1.00 means
A PEG at 1.00 means the price matches the growth — often read as fairly valued. Here is the worked example: a $150.00 share price on $6.00 of earnings growing 25% is a 1.00 PEG. The idea was popularised by Peter Lynch, who argued that a fairly priced growth stock should have a PEG near 1.00. A PEG at 1.00 is not a promise: the growth still has to arrive.
What a PEG above 1.00 means
A PEG above 1.00 means the price is above the growth — the market is charging more than one unit of price for each unit of growth. It can mean the market expects faster growth than the forecast — the market believes they will grow faster still — or it can mean the stock is expensive for its growth. A PEG above 1.00 is not a sell signal on its own: fast-growing sectors carry higher PEGs than slow ones, so a 1.50 PEG in software and a 1.50 PEG in utilities are different stories.
Trailing vs forward growth
The trailing growth rate uses the last five years of earnings — what the company actually grew. The forward growth rate uses forecast earnings — what analysts expect it to grow — and it is usually higher, because earnings are expected to grow. Use the trailing growth rate when you want facts, and the forward growth rate when you want the market’s guess. Never mix them: a trailing PEG against a forward PEG is two different measures.
The PEG vs the P/E
The price-to-earnings ratio is the share price divided by earnings per share — price per dollar of earnings — while the PEG is the P/E divided by the growth rate. The P/E tells you what the market charges for the earnings; the PEG tells you what the market charges for the growth of those earnings. Check both before you judge. Read the guide to the price-to-earnings ratio and try the price-to-earnings ratio calculator and the earnings per share calculator for the earnings side.