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How Does Emeco Holdings's (ASX:EHL) P/E Compare To Its Industry, After The Share Price Drop?

Simply Wall St

Unfortunately for some shareholders, the Emeco Holdings (ASX:EHL) share price has dived 42% in the last thirty days. Indeed the recent decline has arguably caused some bitterness for shareholders who have held through the 41% drop over twelve months.

Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). So, on certain occasions, long term focussed investors try to take advantage of pessimistic expectations to buy shares at a better price. One way to gauge market expectations of a stock 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.

See our latest analysis for Emeco Holdings

How Does Emeco Holdings's P/E Ratio Compare To Its Peers?

Emeco Holdings's P/E of 7.44 indicates relatively low sentiment towards the stock. The image below shows that Emeco Holdings has a lower P/E than the average (23.0) P/E for companies in the trade distributors industry.

ASX:EHL Price Estimation Relative to Market, March 9th 2020
ASX:EHL Price Estimation Relative to Market, March 9th 2020

This suggests that market participants think Emeco Holdings will underperform other companies in its industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. You should delve deeper. I like to check if company insiders have been buying or selling.

How Growth Rates Impact P/E Ratios

Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. When earnings grow, the 'E' increases, over time. That means unless the share price increases, the P/E will reduce in a few years. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.

In the last year, Emeco Holdings grew EPS like Taylor Swift grew her fan base back in 2010; the 125% gain was both fast and well deserved.

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. So it won't reflect the advantage of cash, or disadvantage of debt. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.

While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.

Is Debt Impacting Emeco Holdings's P/E?

Emeco Holdings has net debt worth 72% of its market capitalization. If you want to compare its P/E ratio to other companies, you should absolutely keep in mind it has significant borrowings.

The Verdict On Emeco Holdings's P/E Ratio

Emeco Holdings's P/E is 7.4 which is below average (17.0) in the AU market. The company may have significant debt, but EPS growth was good last year. If it continues to grow, then the current low P/E may prove to be unjustified. Given Emeco Holdings's P/E ratio has declined from 12.8 to 7.4 in the last month, we know for sure that the market is more worried about the business today, than it was back then. For those who prefer invest in growth, this stock apparently offers limited promise, but the deep value investors may find the pessimism around this stock enticing.

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 report on the analyst consensus forecasts could help you make a master move on this stock.

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 editorial-team@simplywallst.com. 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.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.