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Seyhun(2000, p. 210) found that the PE ratio expresses the relationship between stock
prices and the earning per share. The price show how much we have pay for every dollar
of earnings Most investors use PE ratio as an indicator of buying or selling decisions.
The companies with high growth ratio will have high growth PE ratio, on the other hand,
company with low PE ratio tend to has low growth rate. The high growth rate looks
attractive for investors, but it can be tricky. Gibson (2006, p. 325) has indicated that
mostly, stocks with low PE ratio are more profitable because the price in the market
sometime does not reflect the actual performance of the company.
Increased earnings mean increasing in company value and vice versa. For this reason,
the managements are very concerned to the way the earning reported. Earning that are
reported sometimes cannot be reliable. Some managers of the companies sometimes
deliberately increase the earning of the company for some purposes. It is called earning
management. For example, if the sales are below the target, the manager will try to
increase the upcoming earning, at the expense of future earnings, in order to get
immediate bonuses.
Investors should compare the PE ratio of the company with the other company in the
same industry, because each industry has different growth. For example, the utilities
industry will have lower PE comparing to the technological company which has higher
PE.
According to Basu (1977), PE ratios are the predictors of future performance. For
investors, it is better to buy stock which has Low PE ratio. The companies with high PE
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