This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll show how you can use Lincoln Electric Holdings, Inc.'s (NASDAQ:LECO) P/E ratio to inform your assessment of the investment opportunity. Looking at earnings over the last twelve months, Lincoln Electric Holdings has a P/E ratio of 18.90. That is equivalent to an earnings yield of about 5.3%.
How Do I Calculate A Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Lincoln Electric Holdings:
P/E of 18.90 = USD95.39 ÷ USD5.05 (Based on the trailing twelve months to September 2019.)
Is A High P/E Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each USD1 the company has earned over the last year. That isn't necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
How Does Lincoln Electric Holdings's P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. The image below shows that Lincoln Electric Holdings has a lower P/E than the average (23.0) P/E for companies in the machinery industry.
Lincoln Electric Holdings's P/E tells us that market participants think it will not fare as well as its peers in the same industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. 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
Probably the most important factor in determining what P/E a company trades on is the earnings growth. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. And in that case, the P/E ratio itself will drop rather quickly. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Lincoln Electric Holdings increased earnings per share by a whopping 47% last year. And it has bolstered its earnings per share by 8.6% per year over the last five years. I'd therefore be a little surprised if its P/E ratio was not relatively high.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
The 'Price' in P/E reflects the market capitalization of the company. Thus, the metric does not reflect cash or debt held by the company. 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 spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
How Does Lincoln Electric Holdings's Debt Impact Its P/E Ratio?
Lincoln Electric Holdings's net debt is 9.8% of its market cap. So it doesn't have as many options as it would with net cash, but its debt would not have much of an impact on its P/E ratio.
The Bottom Line On Lincoln Electric Holdings's P/E Ratio
Lincoln Electric Holdings has a P/E of 18.9. That's around the same as the average in the US market, which is 18.9. With only modest debt levels, and strong earnings growth, the market seems to doubt that the growth can be maintained.
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.
But note: Lincoln Electric Holdings 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).
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.
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