The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We'll apply a basic P/E ratio analysis to Ingredion Incorporated's (NYSE:INGR), to help you decide if the stock is worth further research. Ingredion has a price to earnings ratio of 15.46, based on the last twelve months. That means that at current prices, buyers pay $15.46 for every $1 in trailing yearly profits.
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Ingredion:
P/E of 15.46 = $91.51 ÷ $5.92 (Based on the trailing twelve months to September 2019.)
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 is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
Does Ingredion Have A Relatively High Or Low P/E For Its Industry?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. If you look at the image below, you can see Ingredion has a lower P/E than the average (24.4) in the food industry classification.
Its relatively low P/E ratio indicates that Ingredion shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with Ingredion, it's quite possible it could surprise on the upside. You should delve deeper. I like to check if company insiders have been buying or selling.
How Growth Rates Impact P/E Ratios
When earnings fall, the 'E' decreases, over time. That means unless the share price falls, the P/E will increase in a few years. Then, a higher P/E might scare off shareholders, pushing the share price down.
Ingredion's earnings per share fell by 5.0% in the last twelve months. But EPS is up 2.1% over the last 5 years. And over the longer term (3 years) earnings per share have decreased 4.8% annually. So it would be surprising to see a high P/E.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. 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 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 Ingredion's Balance Sheet Tell Us?
Ingredion's net debt equates to 27% of its market capitalization. You'd want to be aware of this fact, but it doesn't bother us.
The Verdict On Ingredion's P/E Ratio
Ingredion's P/E is 15.5 which is below average (18.7) in the US market. The debt levels are not a major concern, but the lack of EPS growth is likely weighing on sentiment.
Investors have an opportunity when market expectations about a stock are wrong. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. 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 be able to find a better stock than Ingredion. 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 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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