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Company ABC is trading at $10 per share and has EPS of $0.15. Company XYZ is trading at $125 per share and has EPS of $35.
The ABC stock is trading at a price to earnings ratio (p/e ratio) of 67 ($10 per share divided by $0.15 EPS = 66.67). The XYZ stock, on the other hand, is trading at a p/e of 3.57 ($125 per share divided by $35 EPS = 3.57 p/e). In other words, you are paying $66.67 for every $1 in earnings from company ABC, while company XYZ is offering you the same $1 in earnings for only $3.57. All else being equal, the higher multiple is unjustified unless company ABC is expanding rapidly. Some companies have a policy of never splitting their shares, giving the share price the appearance of gross overvaluation to less-informed investors. The Washington Post, for example, has recently traded between $500 and $700 per share with EPS of over $22. Berkshire Hathaway has traded as high as $70,000 per share with EPS of over $2,000. Hence, Berkshire Hathaway, if it fell to $45,000 per share, may be a far better buy than Wal-Mart at $70 per share. Share price is entirely relative.