U.S. markets close in 4 hours 33 minutes

How Does ESCO Technologies's (NYSE:ESE) P/E Compare To Its Industry, After The Share Price Drop?

Simply Wall St

To the annoyance of some shareholders, ESCO Technologies (NYSE:ESE) shares are down a considerable 34% in the last month. The recent drop has obliterated the annual return, with the share price now down 3.0% over that longer period.

All else being equal, a share price drop should make a stock more attractive to potential investors. 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. 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.

See our latest analysis for ESCO Technologies

Does ESCO Technologies Have A Relatively High Or Low P/E For Its Industry?

We can tell from its P/E ratio of 23.45 that there is some investor optimism about ESCO Technologies. As you can see below, ESCO Technologies has a higher P/E than the average company (14.6) in the machinery industry.

NYSE:ESE Price Estimation Relative to Market, March 17th 2020

That means that the market expects ESCO Technologies will outperform other companies in its industry. 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

P/E ratios primarily reflect market expectations around earnings growth rates. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. That means unless the share price increases, the P/E will reduce in a few years. Then, a lower P/E should attract more buyers, pushing the share price up.

ESCO Technologies's earnings per share were pretty steady over the last year. But over the longer term (5 years) earnings per share have increased by 12%.

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. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on growth.

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.

Is Debt Impacting ESCO Technologies's P/E?

Net debt totals just 3.1% of ESCO Technologies's market cap. The market might award it a higher P/E ratio if it had net cash, but its unlikely this low level of net borrowing is having a big impact on the P/E multiple.

The Bottom Line On ESCO Technologies's P/E Ratio

ESCO Technologies has a P/E of 23.5. That's higher than the average in its market, which is 12.7. With modest debt but no EPS growth in the last year, it's fair to say the P/E implies some optimism about future earnings, from the market. Given ESCO Technologies's P/E ratio has declined from 35.5 to 23.5 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.

When the market is wrong about a stock, it gives savvy investors an opportunity. 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.

Of course you might be able to find a better stock than ESCO Technologies. 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 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.