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Despite Its High P/E Ratio, Is Eutelsat Communications S.A. (EPA:ETL) Still Undervalued?

The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). Weâ€™ll look at Eutelsat Communications S.A.â€™s (EPA:ETL) P/E ratio and reflect on what it tells us about the companyâ€™s share price. Eutelsat Communications has a price to earnings ratio of 14.32, based on the last twelve months. That means that at current prices, buyers pay â‚¬14.32 for every â‚¬1 in trailing yearly profits.

How Do You Calculate A P/E Ratio?

The formula for P/E is:

Price to Earnings Ratio = Share Price Ã· Earnings per Share (EPS)

Or for Eutelsat Communications:

P/E of 14.32 = â‚¬17.88 Ã· â‚¬1.25 (Based on the trailing twelve months to June 2018.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio means that investors are paying a higher price for each â‚¬1 of company 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 Growth Rates Impact P/E Ratios

Companies that shrink earnings per share quickly will rapidly decrease the â€˜Eâ€™ in the equation. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. A higher P/E should indicate the stock is expensive relative to others â€” and that may encourage shareholders to sell.

Eutelsat Communications saw earnings per share decrease by 17% last year. And over the longer term (5 years) earnings per share have decreased 1.8% annually. This might lead to muted expectations.

How Does Eutelsat Communicationsâ€™s P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that Eutelsat Communications has a higher P/E than the average (12.7) P/E for companies in the media industry.

That means that the market expects Eutelsat Communications will outperform other companies in its industry. The market is optimistic about the future, but that doesnâ€™t guarantee future growth. So investors should delve deeper. I like to check if company insiders have been buying or selling.

A Limitation: P/E Ratios Ignore Debt and Cash In The Bank

Donâ€™t forget that the P/E ratio considers market capitalization. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.

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.

Eutelsat Communicationsâ€™s Balance Sheet

Net debt totals 63% of Eutelsat Communicationsâ€™s market cap. This is enough debt that youâ€™d have to make some adjustments before using the P/E ratio to compare it to a company with net cash.

The Bottom Line On Eutelsat Communicationsâ€™s P/E Ratio

Eutelsat Communications trades on a P/E ratio of 14.3, which is fairly close to the FR market average of 14.1. With meaningful debt, and no earnings per share growth last year, even an average P/E indicates that the market a significant improvement from the business.

When the market is wrong about a stock, it gives savvy investors an opportunity. As value investor Benjamin Graham famously said, â€˜In the short run, the market is a voting machine but in the long run, it is a weighing machine.â€™ So this free visual report on analyst forecasts could hold they key to an excellent investment decision.

But note: Eutelsat Communications 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 editorial-team@simplywallst.com.