Want to participate in a research study? Help shape the future of investing tools and earn a $60 gift card!
The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). To keep it practical, we’ll show how International Consolidated Airlines Group, S.A.’s (LON:IAG) P/E ratio could help you assess the value on offer. International Consolidated Airlines Group has a price to earnings ratio of 4.26, based on the last twelve months. That corresponds to an earnings yield of approximately 23%.
How Do You Calculate International Consolidated Airlines Group’s P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share (in the reporting currency) ÷ Earnings per Share (EPS)
Or for International Consolidated Airlines Group:
P/E of 4.26 = €6.08 (Note: this is the share price in the reporting currency, namely, EUR ) ÷ €1.43 (Based on the year to December 2018.)
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.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. When earnings grow, the ‘E’ increases, over time. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. Then, a lower P/E should attract more buyers, pushing the share price up.
International Consolidated Airlines Group increased earnings per share by a whopping 50% last year. And its annual EPS growth rate over 5 years is 29%. With that performance, I would expect it to have an above average P/E ratio.
How Does International Consolidated Airlines Group’s P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that International Consolidated Airlines Group has a lower P/E than the average (7.7) P/E for companies in the airlines industry.
This suggests that market participants think International Consolidated Airlines Group 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.
Remember: P/E Ratios Don’t Consider The Balance Sheet
The ‘Price’ in P/E reflects the market capitalization of the company. 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.
Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).
International Consolidated Airlines Group’s Balance Sheet
International Consolidated Airlines Group’s net debt is 11% of its market cap. It would probably deserve a higher P/E ratio if it was net cash, since it would have more options for growth.
The Verdict On International Consolidated Airlines Group’s P/E Ratio
International Consolidated Airlines Group trades on a P/E ratio of 4.3, which is below the GB market average of 15.7. The EPS growth last year was strong, and debt levels are quite reasonable. The low P/E ratio suggests current market expectations are muted, implying these levels of growth will not continue.
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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
But note: International Consolidated Airlines Group may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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.
If you spot an error that warrants correction, please contact the editor at email@example.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. Thank you for reading.