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Is ASML Holding N.V.'s (AMS:ASML) High P/E Ratio A Problem For Investors?

Simply Wall St

This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll look at ASML Holding N.V.'s (AMS:ASML) P/E ratio and reflect on what it tells us about the company's share price. ASML Holding has a price to earnings ratio of 41.02, based on the last twelve months. That means that at current prices, buyers pay €41.02 for every €1 in trailing yearly profits.

Check out our latest analysis for ASML Holding

How Do I Calculate ASML Holding's Price To Earnings Ratio?

The formula for price to earnings is:

Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)

Or for ASML Holding:

P/E of 41.02 = €223.40 ÷ €5.45 (Based on the year to June 2019.)

Is A High Price-to-Earnings Ratio Good?

The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.

How Does ASML Holding's P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. As you can see below, ASML Holding has a higher P/E than the average company (22.2) in the semiconductor industry.

ENXTAM:ASML Price Estimation Relative to Market, October 7th 2019

That means that the market expects ASML Holding will outperform other companies in its industry. Clearly the market expects growth, but it isn't guaranteed. So further research is always essential. I often monitor director buying and selling.

How Growth Rates Impact P/E Ratios

Probably the most important factor in determining what P/E a company trades on is the earnings growth. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means even if the current P/E is high, it will reduce over time if the share price stays flat. Then, a lower P/E should attract more buyers, pushing the share price up.

ASML Holding saw earnings per share improve by -2.7% last year. And its annual EPS growth rate over 5 years is 10%.

Remember: P/E Ratios Don't Consider The Balance Sheet

One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. That means it doesn't take debt or cash into account. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.

While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.

How Does ASML Holding's Debt Impact Its P/E Ratio?

Net debt totals just 0.7% of ASML Holding's market cap. So it doesn't have as many options as it would with net cash, but its debt would not have much of an impact on its P/E ratio.

The Bottom Line On ASML Holding's P/E Ratio

ASML Holding trades on a P/E ratio of 41.0, which is above its market average of 19.1. With modest debt relative to its size, and modest earnings growth, the market is likely expecting sustained long-term growth, if not a near-term improvement.

Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.