This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll show how you can use Chipotle Mexican Grill Inc’s (NYSE:CMG) P/E ratio to inform your assessment of the investment opportunity. Chipotle Mexican Grill has a price to earnings ratio of 71.88, based on the last twelve months. That means that at current prices, buyers pay $71.88 for every $1 in trailing yearly profits.
How Do You Calculate Chipotle Mexican Grill’s P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Chipotle Mexican Grill:
P/E of 71.88 = $484.82 ÷ $6.74 (Based on the year to September 2018.)
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 necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
How Growth Rates Impact P/E Ratios
When earnings fall, the ‘E’ decreases, over time. That means even if the current P/E is low, it will increase over time if the share price stays flat. Then, a higher P/E might scare off shareholders, pushing the share price down.
Chipotle Mexican Grill increased earnings per share by a whopping 30% last year. In contrast, EPS has decreased by 21%, annually, over 5 years.
How Does Chipotle Mexican Grill’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. As you can see below, Chipotle Mexican Grill has a much higher P/E than the average company (16.6) in the hospitality industry.
Its relatively high P/E ratio indicates that Chipotle Mexican Grill shareholders think it will perform better than other companies in its industry classification. The market is optimistic about the future, but that doesn’t guarantee future growth. So investors should delve deeper. I like to check if company insiders have been buying or selling.
Remember: P/E Ratios Don’t Consider The Balance Sheet
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. 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 Chipotle Mexican Grill’s P/E?
The extra options and safety that comes with Chipotle Mexican Grill’s US$671m net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.
The Verdict On Chipotle Mexican Grill’s P/E Ratio
Chipotle Mexican Grill trades on a P/E ratio of 71.9, which is multiples above the US market average of 17.9. Its net cash position supports a higher P/E ratio, as does its solid recent earnings growth. Therefore it seems reasonable that the market would have relatively high expectations of the company
Investors have an opportunity when market expectations about a stock are wrong. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free visual report on analyst forecasts could hold they key to an excellent investment decision.
But note: Chipotle Mexican Grill 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 email@example.com.