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 Bassett Furniture Industries, Incorporated’s (NASDAQ:BSET) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, Bassett Furniture Industries’s P/E ratio is 19.95. In other words, at today’s prices, investors are paying $19.95 for every $1 in prior year profit.
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Bassett Furniture Industries:
P/E of 19.95 = $21.09 ÷ $1.06 (Based on the trailing twelve months to August 2018.)
Is A High P/E Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. 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 ‘E’ in the equation. That means unless the share price falls, the P/E will increase in a few years. A higher P/E should indicate the stock is expensive relative to others — and that may encourage shareholders to sell.
Bassett Furniture Industries shrunk earnings per share by 39% over the last year. But over the longer term (5 years) earnings per share have increased by 9.1%. And over the longer term (3 years) earnings per share have decreased 11% annually. This might lead to low expectations.
How Does Bassett Furniture Industries’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. The image below shows that Bassett Furniture Industries has a higher P/E than the average (11.5) P/E for companies in the consumer durables industry.
Bassett Furniture Industries’s P/E tells us that market participants think the company will perform better than its industry peers, going forward. The market is optimistic about the future, but that doesn’t guarantee future growth. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits
Don’t forget that the P/E ratio considers market capitalization. Thus, the metric does not reflect cash or debt held by the company. 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).
How Does Bassett Furniture Industries’s Debt Impact Its P/E Ratio?
The extra options and safety that comes with Bassett Furniture Industries’s US$48m net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.
The Bottom Line On Bassett Furniture Industries’s P/E Ratio
Bassett Furniture Industries trades on a P/E ratio of 19.9, which is above the US market average of 16.4. The recent drop in earnings per share might keep value investors away, but the relatively strong balance sheet will allow the company time to invest in growth. Clearly, the high P/E indicates shareholders think it will!
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 report on the analyst consensus forecasts could help you make a master move on this stock.
But note: Bassett Furniture Industries 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 firstname.lastname@example.org.