The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll look at Atico Mining Corporation’s (CVE:ATY) P/E ratio and reflect on what it tells us about the company’s share price. Based on the last twelve months, Atico Mining’s P/E ratio is 4.59. In other words, at today’s prices, investors are paying CA$4.59 for every CA$1 in prior year profit.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price (in reporting currency) ÷ Earnings per Share (EPS)
Or for Atico Mining:
P/E of 4.59 = $0.21 (Note: this is the share price in the reporting currency, namely, USD ) ÷ $0.046 (Based on the trailing twelve months to June 2018.)
Is A High P/E Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each CA$1 of company earnings. 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 Growth Rates Impact P/E Ratios
Probably the most important factor in determining what P/E a company trades on is the earnings growth. When earnings grow, the ‘E’ increases, over time. 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.
Atico Mining increased earnings per share by a whopping 235% last year. And its annual EPS growth rate over 5 years is 53%. I’d therefore be a little surprised if its P/E ratio was not relatively high.
How Does Atico Mining’s P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. We can see in the image below that the average P/E (10.2) for companies in the metals and mining industry is higher than Atico Mining’s P/E.
Its relatively low P/E ratio indicates that Atico Mining shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with Atico Mining, it’s quite possible it could surprise on the upside. It is arguably worth checking if insiders are buying shares, because that might imply they believe the stock is undervalued.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
It’s important to note that the P/E ratio considers the market capitalization, not the enterprise value. That means it doesn’t take debt or cash into account. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).
Is Debt Impacting Atico Mining’s P/E?
Atico Mining’s net debt is 6.4% of its market cap. It would probably trade on a higher P/E ratio if it had a lot of cash, but I doubt it is having a big impact.
The Verdict On Atico Mining’s P/E Ratio
Atico Mining trades on a P/E ratio of 4.6, which is below the CA market average of 14.2. The company hasn’t stretched its balance sheet, and earnings 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. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. 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.
You might be able to find a better buy than Atico Mining. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
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.