Which ratio measures a company's market expectations for future growth?

• A. Current ratio
• B. Debt-to-equity ratio
• C. Inventory turnover ratio
• D. Price/Earnings (P/E) ratio

Answer: (D)

Verified step by step guidance

1. Understand the concept of the Price/Earnings (P/E) ratio: It is a financial metric used to evaluate a company's market expectations for future growth by comparing its current share price to its earnings per share (EPS).
2. Recognize that the P/E ratio is not directly related to liquidity (like the Current ratio), leverage (like the Debt-to-equity ratio), or operational efficiency (like the Inventory turnover ratio). Instead, it focuses on market valuation and growth expectations.
3. Learn the formula for calculating the P/E ratio: \( \text{P/E Ratio} = \frac{\text{Market Price per Share}}{\text{Earnings per Share (EPS)}} \). This formula highlights the relationship between the market price and the company's earnings.
4. Understand the interpretation of the P/E ratio: A higher P/E ratio typically indicates that investors expect higher future growth, while a lower P/E ratio may suggest lower growth expectations or undervaluation.
5. Apply this knowledge to identify that the P/E ratio is the correct answer to the question, as it directly measures market expectations for future growth.