Price-to-earnings ratio is still a good way to measure value

— -- Q: How can an investor compare GE's valuation now vs. where it was two years ago?

A: With stocks crashing to 1996 levels, it's time to break out the history books when it comes to valuation.

Normally, investors simply compare a stock's price-to-earnings ratio to the industry average or with the stock market's price-to-earnings ratio, or P-E, to know if the stock is cheap or not. But with stock prices in the basement, investors are looking for a longer-term horizon.

I'll step you through the process of measuring GE's trailing P-E now vs. a year ago. The P-E is just one ratio to help investors determine a stock's valuation. But it's one that's easily understood and a good place to start.

First, you need to calculate GE's current trailing P-E, which is based on its most recent twelve months of results. This is simply the stock's current price divided by the company's past twelve months of diluted earnings per share.

You can obtain GE's trailing earnings in its annual report, here. This shows GE's diluted earnings per share of $1.72 in 2008. When you divide GE's recent stock price of $10.12 by $1.72 you get a trailing P-E of 5.9.

Related Stories

Threat 'neutralized' after active shooter reported

• May 1, 8:12 PM

Griner on 'mistake' that led to Russian detention

• May 1, 7:57 AM

Man kills wife, 3 kids in mass shooting: Police

• Apr 23, 12:35 PM

Now, get into your time machine and zoom back to March 2007. The math is the same. On March 12, 2007, GE's stock price closed at $34.40. And during 2006, the company posted diluted earnings per share of $2. When you divide $34.40 by $2 you arrive at a P-E in March 2007 of 17.2.

So you can see just how far GE's P-E has fallen. Does that mean you should run out and buy the stock? Certainly not.

Earnings could fall more in 2009 and 2010, which would lift the P-E and make the stock look more expensive. In addition, the company has its highly leveraged GE Capital arm to contend with.

Matt Krantz is a financial markets reporter at USA TODAY and author of Investing Online for Dummies. He answers a different reader question every weekday in his Ask Matt column at money.usatoday.com. To submit a question, e-mail Matt at mkrantz@usatoday.com. Click here to see previous Ask Matt columns.