PEG Ratio & Growth Valuation Lab

GARP Valuation Multiple Comparison Schedule

Compare implied share prices and valuation premiums across industry standard PEG benchmark tiers.

Sensitivity Analysis 1: P/E Ratio vs. Expected EPS Growth on Resulting PEG Ratio

PEG ratio sensitivity: identifying Growth at a Reasonable Price (GARP) across valuation multiples and compounding speeds.

Sensitivity Analysis 2: Target PEG Benchmark vs. Expected EPS Growth on Implied Fair Value ($)

Implied stock price targets across growth compounding trajectories and investor PEG hurdle rates.

Formulas and worked example

• Price-to-Earnings Ratio (P/E) = Share Price / Earnings Per Share (EPS)
• PEG Ratio = P/E Ratio / Expected EPS Growth Rate Percentage ($g$)
• Dividend-Adjusted PEGY Ratio = P/E Ratio / (Expected EPS Growth Rate + Dividend Yield Percentage)
• Implied Fair Value Share Price = $\text{EPS} \times g \times \text{Target PEG}$
• Valuation Upside / Margin of Safety = $[(\text{Implied Fair Value} - \text{Market Price}) / \text{Market Price}] \times 100\%$
• Required Growth for 1.0x PEG = P/E Ratio

A stock trades at $72.00 per share with trailing twelve-month EPS of $4.00, yielding a P/E multiple of 18.0x. Wall Street consensus projects long-term EPS growth of 20.0% per year, and the company distributes a 1.5% dividend yield. The standard PEG ratio is $18.0 / 20.0 = 0.90\text{x}$. Because PEG is below 1.0x, the stock trades in Peter Lynch's undervalued GARP territory. Factoring in dividends, the PEGY ratio is $18.0 / (20.0 + 1.5) = 0.837\text{x}$. At a 1.0x target PEG benchmark, the implied fair value share price is $\$4.00 \times 20.0 \times 1.0 = \$80.00$, indicating an 11.11% upside discount relative to the current market quote.

Self-check quiz

1. According to Peter Lynch, a PEG ratio of exactly 1.0 indicates:

2. Company A has a P/E of 30x and grows at 40%. Company B has a P/E of 15x and grows at 10%. Under the PEG framework:

3. Why is the dividend-adjusted PEGY ratio especially useful for mature utility or consumer staple stocks?

4. If a stock with $5.00 EPS and 15% projected growth trades at a 1.2x target PEG, its implied fair value share price is:

Check answers

Frequently asked questions

What is the PEG ratio and what does a score below 1.0 indicate?

The PEG ratio (Price/Earnings-to-Growth) divides a company's Price-to-Earnings (P/E) ratio by its annual earnings-per-share (EPS) growth rate percentage. Popularized by legendary investor Peter Lynch, a PEG ratio below 1.0 suggests the stock may be undervalued relative to its growth potential (Growth at a Reasonable Price, or GARP).

What is the difference between standard PEG and dividend-adjusted PEGY?

The standard PEG ratio only accounts for capital appreciation via EPS growth. The dividend-adjusted PEGY ratio adds dividend yield to the growth rate: PEGY = P/E / (Growth Rate + Dividend Yield). This provides a fairer valuation metric for mature, dividend-paying cash cows that return capital to shareholders rather than retaining all earnings for reinvestment.

Why can a high P/E stock still have an attractive PEG ratio?

A company trading at a seemingly expensive 40x P/E ratio that is compounding earnings at 50% per year has a PEG ratio of 0.80x (40 / 50). Because the earnings growth exceeds the earnings multiple, the future earnings power quickly compresses the effective multiple paid by long-term investors.

What are the primary limitations of relying solely on the PEG ratio?

The PEG ratio assumes constant linear earnings growth, which is unsustainable for hyper-growth companies. It also ignores balance sheet leverage, capital intensity, free cash flow conversion, and uses subjective estimates for future EPS growth that can drastically alter fair value conclusions if estimates miss.

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