This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll show how you can use Xilinx, Inc.'s (NASDAQ:XLNX) P/E ratio to inform your assessment of the investment opportunity. Xilinx has a P/E ratio of 32.45, based on the last twelve months. That means that at current prices, buyers pay $32.45 for every $1 in trailing yearly profits.
How Do You Calculate Xilinx's P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Xilinx:
P/E of 32.45 = $120.77 ÷ $3.72 (Based on the trailing twelve months to June 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. That isn't a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business's prospects, relative to stocks with a lower P/E.
How Does Xilinx's P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. You can see in the image below that the average P/E (23.1) for companies in the semiconductor industry is lower than Xilinx's P/E.
That means that the market expects Xilinx will outperform other companies in its industry. Clearly the market expects growth, but it isn't guaranteed. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
How Growth Rates Impact P/E Ratios
P/E ratios primarily reflect market expectations around earnings growth rates. Earnings growth means that in the future the 'E' will be higher. That means unless the share price increases, the P/E will reduce in a few years. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Xilinx's 88% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. And earnings per share have improved by 19% annually, over the last three years. So you might say it really deserves to have an above-average P/E ratio.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
Don't forget that the P/E ratio considers market capitalization. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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.
So What Does Xilinx's Balance Sheet Tell Us?
Xilinx has net cash of US$1.6b. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.
The Verdict On Xilinx's P/E Ratio
Xilinx's P/E is 32.5 which is above average (18) in its market. Its net cash position is the cherry on top of its superb EPS growth. So based on this analysis we'd expect Xilinx to have a high P/E ratio.
Investors should be looking to buy stocks that the market is wrong about. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
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 firstname.lastname@example.org. 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.