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Despite Its High P/E Ratio, Is Carpenter Technology Corporation (NYSE:CRS) Still Undervalued?

This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll look at Carpenter Technology Corporation’s (NYSE:CRS) P/E ratio and reflect on what it tells us about the company’s share price. Carpenter Technology has a P/E ratio of 10.41, based on the last twelve months. That means that at current prices, buyers pay $10.41 for every $1 in trailing yearly profits.

View our latest analysis for Carpenter Technology

How Do I Calculate A Price To Earnings Ratio?

The formula for price to earnings is:

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

Or for Carpenter Technology:

P/E of 10.41 = $42.84 ÷ $4.12 (Based on the year to September 2018.)

Is A High P/E Ratio Good?

A higher P/E ratio means that investors are paying a higher price for each $1 of company earnings. All else being equal, it’s better to pay a low price — but as Warren Buffett said, ‘It’s far better to buy a wonderful company at a fair price than a fair company at a wonderful price.’

How Growth Rates Impact P/E Ratios

Earnings growth rates have a big influence on P/E ratios. 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. Then, a lower P/E should attract more buyers, pushing the share price up.

Carpenter Technology increased earnings per share by a whopping 154% last year. And its annual EPS growth rate over 5 years is 7.1%. So we’d generally expect it to have a relatively high P/E ratio.

How Does Carpenter Technology’s P/E Ratio Compare To Its Peers?

The P/E ratio essentially measures market expectations of a company. The image below shows that Carpenter Technology has a P/E ratio that is roughly in line with the metals and mining industry average (10.3).

NYSE:CRS PE PEG Gauge November 16th 18

That indicates that the market expects Carpenter Technology will perform roughly in line with other companies in its industry. So if Carpenter Technology actually outperforms its peers going forward, that should be a positive for the share price. Checking factors such as the tenure of the board and management could help you form your own view on if that will happen.

Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits

The ‘Price’ in P/E reflects the market capitalization of the company. 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.

Is Debt Impacting Carpenter Technology’s P/E?

Carpenter Technology’s net debt is 26% of its market cap. This is a reasonably significant level of debt — all else being equal you’d expect a much lower P/E than if it had net cash.

The Bottom Line On Carpenter Technology’s P/E Ratio

Carpenter Technology has a P/E of 10.4. That’s below the average in the US market, which is 17.9. The company does have a little debt, and EPS growth was good last year. If it continues to grow, then the current low P/E may prove to be unjustified.

Investors should be looking to buy stocks that the market is wrong about. As value investor Benjamin Graham famously said, ‘In the short run, the market is a voting machine but in the long run, it is a weighing machine.’ 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.

But note: Carpenter Technology 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.