Unfortunately for some shareholders, the Herbalife Nutrition (NYSE:HLF) share price has dived 36% in the last thirty days. That drop has capped off a tough year for shareholders, with the share price down 55% in that time.
All else being equal, a share price drop should make a stock more attractive to potential investors. 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. 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). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.
How Does Herbalife Nutrition's P/E Ratio Compare To Its Peers?
Herbalife Nutrition's P/E of 11.28 indicates relatively low sentiment towards the stock. We can see in the image below that the average P/E (12.4) for companies in the personal products industry is higher than Herbalife Nutrition's P/E.
This suggests that market participants think Herbalife Nutrition will underperform other companies in its industry. Many investors like to buy stocks when the market is pessimistic about their prospects. If you consider the stock interesting, further research is recommended. For example, 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. Earnings growth means that in the future the 'E' will be higher. That means even if the current P/E is high, it will reduce over time if the share price stays flat. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Herbalife Nutrition's earnings per share grew by 7.0% in the last twelve months. And its annual EPS growth rate over 5 years is 4.8%.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in 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 Herbalife Nutrition's P/E?
Net debt is 27% of Herbalife Nutrition's market cap. While it's worth keeping this in mind, it isn't a worry.
The Verdict On Herbalife Nutrition's P/E Ratio
Herbalife Nutrition has a P/E of 11.3. That's below the average in the US market, which is 12.7. The company hasn't stretched its balance sheet, and earnings are improving. The P/E ratio implies the market is cautious about longer term prospects. What can be absolutely certain is that the market has become significantly less optimistic about Herbalife Nutrition over the last month, with the P/E ratio falling from 17.5 back then to 11.3 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.
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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
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.
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.