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This article is written for those who want to get better at using price to earnings ratios (P/E ratios). To keep it practical, we’ll show how Bank of South Carolina Corporation’s (NASDAQ:BKSC) P/E ratio could help you assess the value on offer. Bank of South Carolina has a price to earnings ratio of 16.7, based on the last twelve months. In other words, at today’s prices, investors are paying $16.7 for every $1 in prior year profit.
How Do I Calculate A Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Bank of South Carolina:
P/E of 16.7 = $18.12 ÷ $1.08 (Based on the trailing twelve months to September 2018.)
Is A High P/E Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. That isn’t necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
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. Earnings growth means that in the future the ‘E’ will be higher. 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.
It’s great to see that Bank of South Carolina grew EPS by 10% in the last year. And its annual EPS growth rate over 5 years is 6.6%. This could arguably justify a relatively high P/E ratio.
How Does Bank of South Carolina’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. As you can see below, Bank of South Carolina has a higher P/E than the average company (13.3) in the banks industry.
Its relatively high P/E ratio indicates that Bank of South Carolina shareholders think it will perform better than other companies in its industry classification. Shareholders are clearly optimistic, but the future is always uncertain. So investors should delve deeper. I like to check if company insiders have been buying or selling.
Remember: P/E Ratios Don’t Consider The Balance Sheet
Don’t forget that the P/E ratio considers market capitalization. That means it doesn’t take debt or cash into account. Theoretically, a business can improve its earnings (and produce a lower P/E in the future), by taking on debt (or spending its remaining cash).
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
Bank of South Carolina’s Balance Sheet
Since Bank of South Carolina holds net cash of US$30m, it can spend on growth, justifying a higher P/E ratio than otherwise.
The Verdict On Bank of South Carolina’s P/E Ratio
Bank of South Carolina has a P/E of 16.7. That’s around the same as the average in the US market, which is 16.8. With a strong balance sheet combined with recent growth, the P/E implies the market is quite pessimistic.
Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. We don’t have analyst forecasts, but you could get a better understanding of its growth by checking out this more detailed historical graph of earnings, revenue and cash flow.
But note: Bank of South Carolina may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at email@example.com.