How Dividend Yield Changes the PEGY Ratio Interpretation

Summary

The note examines whether adding dividend yield to earnings growth in the PEGY ratio double counts earnings distributed to shareholders. It rewrites the ratio using price, the change in earnings, and dividends, illustrating how dividends add to the denominator even though paying them removes cash the company could otherwise reinvest.

The example contrasts two companies with the same annual earnings increase, where one also pays a dividend, and asks whether the payout should count as an additional return component. This frames PEGY as a measure that may treat distributed cash and internally compounded growth differently. The explanation is exploratory rather than conclusive: it sets aside whether trailing or forward P/E is appropriate, and does not establish a definitive valuation rule or test the ratio against investment outcomes.

Key ideas

• PEGY combines the price-to-earnings ratio with earnings growth and dividend yield.
• Rearranging the formula shows dividends contribute alongside the change in earnings.
• A dividend represents cash shareholders receive but that the company cannot reinvest to compound growth.
• The example raises a possible double-counting issue without resolving how PEGY should be interpreted.

Tags

# PEGY Ratio: Does it make sense?


# PEGY Ratio: Does it make sense?












PEGY ratio is calculated as PE ratio/(Earnings Growth Rate + Dividend Yield). Putting aside the discussion of whether forward or trailing P/E ratio should be used, isn't adding dividend yield over estimating the growth rate. After all common stock dividends are paid from net income.

## Answer by experquisite (score 1)

https://quant.stackexchange.com/a/15732

This is all off the top of my head, but how about this:

$$ PEGY = \frac{PE}{EG+DY} $$ $$ PE = \frac{P}{E_n} $$ $$ EG_{forward} = \frac{E_{n+1} - E_n}{E_n}$$ $$ DY = \frac{D}{E_n}$$

$$PEGY = \frac{\frac{P}{E_n}}{\frac{E_{n+1} - E_n}{E_n} + \frac{D}{E_n}} = \frac{P}{E_n} \frac{E_n}{E_{n+1} - E_n + D} $$ $$PEGY = \frac{P}{\Delta E + D}$$

And examining the bottom term, one can easily imagine that a company whose annual delta-earnings is 100 with no dividends is not preferable to a company whose annual delta-earnings is 100 but which additionally pays a dividend of 50 every year. The dividends have been double-counted, but the second company didn't have access to that cash with which to compound growth. But I am not 100% sure where I am going with this.

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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.