# Price Earnings to Growth and Dividend Yield (PEGY)

This is an advanced guide on how to calculate Price Earnings to Growth & Dividend Yield (PEGY) ratio with detailed interpretation, analysis, and example. You will learn how to utilize this ratio's formula to determine if a stock is currently undervalued or overvalued.

## Definition - What is PEGY Ratio?

In continuing to build upon the information provided by a company’s P/E ratio, the Price Earnings to Growth and Dividend Yield Ratio, also known as the PEGY ratio, is basically an enhanced version of the PEG ratio.

By throwing a firm’s dividend yield into the mix, you can now determine how much investors are currently willing to pay for both a stock’s earnings growth potential, and for its dividend payout.

Including a company’s dividend yield in this ratio helps to measure how inclined or disinclined an organization is to pay out earnings as investor dividends.

More...

## Why Should You Use the PEGY Ratio?

Because this ratio further refines the measure of a firm’s value, beyond either the P/E ratio or the PEG ratio, it’s an even more useful analytical device to include in your investment analysis toolbox.

The Price Earnings to Growth and Dividend Yield ratio offers a number of distinct advantages over the PEG ratio, including:

- Considering both the predicted future growth and the dividend performance of a given company
- Diffusing the possible misconception that a high-growth business is undervalued in the marketplace
- Counteracting the inaccurate conclusion that a high-yield business is overvalued in the marketplace

Considering a company’s dividend performance in your investment analysis calculations is extremely important, since dividends contribute significant value to a business.

Without taking a firm’s dividend yield into account, as the PEGY ratio does, your valuation of a business could be completely off-track.

When an organization has been experiencing high growth, the result of its PEG ratio will be relatively low:

Assume that both businesses have the same Price Earnings ratio (P/E) of 10 (times):

- Company A (normal business) has a growth rate of 10%
- Company B (high growth business) has a growth rate of 20%

Normal Business | | High Growth Business | |
---|---|---|---|

PEG ratio | 1.0 | versus | 0.5 |

This often leads investors to believe that the high-growth firm is undervalued, and therefore represents a good buy.

- The PEG ratio tends to make high growth companies look to be undervalued, while some of them may be overvalued...
- This causes a potential bias when using this ratio to evaluate your business value

But this is not always the case, since a low stock price will also cause the PEG ratio to be relatively low, and a stock’s price can be low for any number of reasons, including the possibility that it’s in financial trouble:

Assume that both businesses have the same growth rate of 10%:

- Company C (normal business) has a P/E ratio of 10
- Company D (low P/E business) has a P/E ratio of 5

Normal Business | | Low P/E Business | |
---|---|---|---|

PEG ratio | 1.0 | versus | 0.5 |

- The PEG ratio tends to make low price companies look to be undervalued, while some of them may be stuck with financial problems...
- This causes a potential bias when using this ratio to evaluate your business value

Because companies with a high dividend yield also tend to demonstrate a low rate of growth, the PEG ratio result for these firms will be quite high, and they’ll appear to be overvalued in the marketplace.

This can cause potential investors to shy away from what might prove to be a very lucrative stock, and can cause current investors to mistakenly believe it would be a good time to sell their shares:

Assume that both businesses have the same P/E ratio of 10:

- Company E (normal business) has a growth rate of 10%
- Company F (high yield business) has a low growth rate of 5%

Normal Business | | High Yield Business | |
---|---|---|---|

PEG ratio | 1.0 | versus | 2.0 |

- The PEG ratio tends to make high yield companies look to be overvalued, while some of them may be undervalued...
- This causes a potential bias when using this ratio to evaluate your business value

Making use of the Price Earnings to Growth and Dividend Yield ratio, rather than just the PEG ratio, will help you to make better decisions about both your current and your potential investments.

## PEGY Formula

To calculate this powerful ratio for a specific company, you would use the following formula:

PEGY Ratio = PE Ratio / (EPS Growth Rate + Dividend Yield)

You should note that both the earnings growth rate and the dividend yield are percentage values, but they’re expressed as whole numbers for the purposes of the above formula.

The dividend yield is calculated by dividing a stock’s dividend per share, by its current price.

Read also: The Step-by-Step Guide to Calculating Intrinsic Value

## PEGY Ratio Calculator

## Example

You’re in the process of performing a valuation of Company PP’s stock, and have already determined both its P/E ratio, and its PEG ratio.

Now you’d like to calculate Company PP’s Price Earnings to Growth and Dividend Yield ratio, for further analysis.

Your research to date has revealed the following information:

- Current Share Price = $20
- Current Dividend per Share = $2
- Most Recent Earnings per Share = $4
- Predicted Annual Growth Rate = 10%

With these figures, you can now calculate Company PP’s PEGY ratio, as follows:

The low ratio of 0.25 indicates that this stock is probably undervalued, and there will be a chance that the stock price will increase in the future.

## Interpretation & Analysis

Analyzing the results of the Price Earnings to Growth and Dividend Yield ratio for a specific business is very similar to examining its PEG ratio outcome; the only difference is that this ratio takes a firm’s dividend yield into account.

### How to Use This Ratio to Value Stocks

- Overvalued signal: PEGY Ratio > 1.0
- Undervalued signal: PEGY Ratio < 1.0

### So what is a good pegy ratio?

In both cases, a lower result (i.e. less than 1) tends to be more favorable in terms of defining a firm’s value, because it implies that shares are relatively inexpensive in relation to the company’s income potential, or dividend payments.

- Look for stocks with the PEGY ratio of 1.0 or lower

Either factor would be viewed as positive, since either can mean the stock’s price is poised to rise.

Remember, though, that when assessing a potential investment, the outcome of the Price Earnings to Growth and Dividend Yield ratio is built on a company’s expected rate of growth only, rather than on its actual earnings growth rate.

Additionally, like most other financial ratios, this ratio result fluctuates from industry to industry, and so should always be analyzed against the prevailing norms for a given market sector.

Read also: Gross Profit Margin - Formula, Example & Analysis

## Cautions & Further Explanation

It’s important to keep in mind that, as discussed in our previous article about the Price to Earnings to Growth Ratio, this ratio can be somewhat deceptive.

In fact, without additional information about a company, either a high or low outcome can be misleading.

For example, when a firm’s growth rate or dividend yield is relatively high or low, it causes both its PEG and its PEGY ratios to be high or low in turn.

This is a particularly significant fact where extremely high-yield stocks are concerned, such as those that offer a dividend yield of 15% or more.

The higher yield makes for a higher number on the bottom of the PEGY formula, leading to a lower ratio result.

This can lead you to believe that a stock is undervalued, and therefore represents a good investment, but it doesn’t necessarily take the company’s potential for long-term earnings growth, *or its lack of*, into account.

You can learn more about other stock valuation ratios here.