To the annoyance of some shareholders, Credit Corp Group (ASX:CCP) shares are down a considerable 33% in the last month. Looking back over the last year, the stock has been a solid performer, with a gain of 13%.
Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. 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.
How Does Credit Corp Group's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 17.51 that there is some investor optimism about Credit Corp Group. The image below shows that Credit Corp Group has a higher P/E than the average (12.5) P/E for companies in the consumer finance industry.
Its relatively high P/E ratio indicates that Credit Corp Group shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn't guaranteed. So further research is always essential. I often monitor director buying and selling.
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. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. And in that case, the P/E ratio itself will drop rather quickly. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Credit Corp Group maintained roughly steady earnings over the last twelve months. But it has grown its earnings per share by 12% per year over the last five years.
Remember: P/E Ratios Don't Consider The Balance Sheet
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. So it won't reflect the advantage of cash, or disadvantage of debt. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
Such expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.
So What Does Credit Corp Group's Balance Sheet Tell Us?
Credit Corp Group has net debt worth 14% of its market capitalization. That's enough debt to impact the P/E ratio a little; so keep it in mind if you're comparing it to companies without debt.
The Verdict On Credit Corp Group's P/E Ratio
Credit Corp Group has a P/E of 17.5. That's around the same as the average in the AU market, which is 17.0. With modest debt, and a lack of recent growth, it would seem the market is expecting improvement in earnings. What can be absolutely certain is that the market has become significantly less optimistic about Credit Corp Group over the last month, with the P/E ratio falling from 26.1 back then to 17.5 today. 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.
When the market is wrong about a stock, it gives savvy investors an opportunity. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
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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