The forward price-to-earnings (P/E) ratio is a projected P/E ratio. The standard P/E ratio is calculated by dividing the stock price per share by the earnings from the previous year. A listed company generally has a P/E ratio unless it's unprofitable.
The forward P/E ratio differs from the standard P/E ratio in that it is not based on historical earnings. Analysts calculate the forward P/E by estimating what the company's earnings will be in the future. This should often be taken with a pinch of salt as it might be subject to the analyst's bias. Some companies also offer guidance on future revenues and earnings in their quarterly reports.
Examples of a good forward P/E ratio
So then what is a good forward P/E? It depends on a variety of factors and there's no magic formula to determine one.
Tesla had an excessively high P/E of 1101.16 in April 2021. However, it’s expected to drop to 244.7 in 2022 due to an increase in its earnings. In this case, the P/E dropping significantly means analysts expect the Tesla stock to do well in the future due to popular innovation.
However, a variety of factors go into understanding the forward P/E, which are further explained in our article on how to use the price-earnings ratio when investing.
Another thing to beware of is that different industries have different average numbers. A quick comparison shows that software companies have a high average P/E of 49.63, while oil and gas sit at 16.98 as of writing.
Overall, the forward P/E ratio is a helpful tool to gauge whether you should invest in a particular company based on analyst and market expectations regarding the company’s business performance. Remember, a forward P/E is neither perfect nor set in stone as unforeseen circumstances can cause massive disruptions or upturns for any business.
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