Unfortunately for some shareholders, the Auckland International Airport (NZSE:AIA) share price has dived 37% in the last thirty days. That drop has capped off a tough year for shareholders, with the share price down 35% in that time.
All else being equal, a share price drop should make a stock more attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. The implication here is that long term investors have an opportunity when expectations of a company are too low. Perhaps the simplest way to get a read on investors' expectations of a business is to look at its Price to Earnings Ratio (PE Ratio). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.
Does Auckland International Airport Have A Relatively High Or Low P/E For Its Industry?
We can tell from its P/E ratio of 12.07 that sentiment around Auckland International Airport isn't particularly high. The image below shows that Auckland International Airport has a lower P/E than the average (24.8) P/E for companies in the infrastructure industry.
Its relatively low P/E ratio indicates that Auckland International Airport shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with Auckland International Airport, it's quite possible it could surprise on the upside. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. And in that case, the P/E ratio itself will drop rather quickly. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Auckland International Airport's earnings per share fell by 18% in the last twelve months. But over the longer term (5 years) earnings per share have increased by 20%.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
The 'Price' in P/E reflects the market capitalization of the company. 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.
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 Auckland International Airport's P/E?
Auckland International Airport has net debt equal to 30% of its market cap. While that's enough to warrant consideration, it doesn't really concern us.
The Bottom Line On Auckland International Airport's P/E Ratio
Auckland International Airport trades on a P/E ratio of 12.1, which is below the NZ market average of 17.0. The debt levels are not a major concern, but the lack of EPS growth is likely weighing on sentiment. Given Auckland International Airport's P/E ratio has declined from 19.3 to 12.1 in the last month, we know for sure that the market is significantly less confident about the business today, than it was back then. For those who prefer to invest with the flow of momentum, that might be a bad sign, but for a contrarian, it may signal opportunity.
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. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course you might be able to find a better stock than Auckland International Airport. So you may wish to see this free collection of other companies that have grown earnings strongly.
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.
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