What Is an Earnings Multiplier? How It Works and Example (2024)

FAQs

What is an example of the earnings multiplier? ›

For example, the share price of a company is now trading at $100 per share, and its per-share earnings is $10. The earnings multiplier will be 10 ($100/$10). It implies that for one dollar earned by the company, an investor will pay $10. The investor will be paying 10 times the company's present value.

The earnings multiplier is a financial metric that frames a company's current stock price in terms of the company's earnings per share (EPS) of stock, that's simply computed as price per share/earnings per share.

The earnings multiplier is also known as the price-to-earnings (P/E) ratio. The earnings multiplier is calculated by dividing the market price per share by the earnings per share. For example, if a company has a market price of $50 per share and an EPS of $5, the earnings multiplier would be 10 ($50/$5).

P/E Ratio Example

If the sector's average P/E is 15, Stock A has a P/E = 15 and Stock B has a P/E = 30, stock A is cheaper despite having a higher absolute price than Stock B because you pay less for every $1 of current earnings. However, Stock B has a higher ratio than both its competitor and the sector.

For example, if consumers save 20% of new income and spend the rest, then their MPC would be 0.8 (1 - 0.2). The multiplier would be 1 / (1 - 0.8) = 5. So, every new dollar creates extra spending of $5.

If the reserve ratio is 20% or 0.20, then the money multiplier would be 5 because (1.0 / 0.20 = 5). In other words, for every one dollar invested, five dollars were generated. If the reserve ratio was lowered to 10% or 0.10, then the money multiplier would be 10 because (1.0 / 0.10 = 10).

Typically, the average P/E ratio is around 20 to 25. Anything below that would be considered a good price-to-earnings ratio, whereas anything above that would be a worse P/E ratio.

The P/E for a stock is computed by dividing the price of a stock (the "P") by the company's annual earnings per share (the "E").

The ratio of EV/EBITDA is used to compare the entire value of a business with the amount of EBITDA it earns on an annual basis. This ratio tells investors how many times EBITDA they have to pay, were they to acquire the entire business.

Multipliers (or “Earnings Multipliers”) are used in business valuations as way of multiplying the earnings of a business to reflect the true value of a business.

What multiplier to sell a business? ›

Common Multiples

Retail businesses: 1.5 to 3.0 (i.e., cash flow x 1.5-3.0 multiple) Service businesses: 1.5 to 3.0 (i.e., cash flow x 1.5-3.0 multiple) Food businesses: 1.5 to 3.0 (i.e., cash flow x 1.5-3.0 multiple) Manufacturing businesses: 3.0 to 5.0+ (i.e., cash flow x 3.0-5.0+ multiple)

Step 1: Convert the percent increase or decrease to a decimal. Step 2: If the percentage, , (in decimal form) is a decrease, then the multiplier, , is given by m = 1 − p . If the percentage is an increase, then the multiplier is given by m = 1 + p .

Even if a company has a negative EPS, which means it's losing money, the stock may still be worth buying. In the case of Amazon, for example, the company had a negative EPS for a long period of time, but its stock price still increased because of other indicators, including its massive market share.

There's no definition of a “good” or “bad” EPS value. But all other things being equal, the higher a company's EPS is, the better. The opposite is true for a company's price-to-earnings (P/E) ratio. In most cases, the lower a company's P/E ratio is, the better.

Price to earnings ratio, or P/E, is a way to value a company by comparing the price of a stock to its earnings. The P/E equals the price of a share of stock, divided by the company's earnings-per-share.

The multiplier effect refers to the effect on national income and product of an exogenous increase in demand. For example, suppose that investment demand increases by one. Firms then produce to meet this demand. That the national product has increased means that the national income has increased.

For instance, suppose a company's shares are currently trading at $10.00 in the open market, and its diluted EPS for the latest fiscal year was $1.00. The following formulas can be used to calculate the earnings yield and P/E ratio: Earnings Yield = $1.00 Diluted EPS ÷ $10.00 Share Price = 10.0%

Let's say the MPC of the labourers is 0.5, that means that for every 1 rupee earned they spend 0.50 rupees in consumption of goods and services. It means that for every 1 rupee invested by the government, it will generate an income of 2 rupees.

Money multiplier and the reserve ratio

For example, if Country A decides that all banks in the country have to adhere to a Reserve Ratio of 1/10th or 10%, then for every $100 deposited into a bank, that bank is only required to keep $10 from that deposit in its reserves, or its vault.