To the annoyance of some shareholders, Manhattan Associates (NASDAQ:MANH) shares are down a considerable 31% in the last month. Even longer term holders have taken a real hit with the stock declining 20% in the last year.
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. One way to gauge market expectations of a stock 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.
How Does Manhattan Associates's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 34.05 that sentiment around Manhattan Associates isn't particularly high. We can see in the image below that the average P/E (39.2) for companies in the software industry is higher than Manhattan Associates's P/E.
This suggests that market participants think Manhattan Associates will underperform other companies in its industry. Many investors like to buy stocks when the market is pessimistic about their prospects. It is arguably worth checking if insiders are buying shares, because that might imply they believe the stock is undervalued.
How Growth Rates Impact P/E Ratios
When earnings fall, the 'E' decreases, over time. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. So while a stock may look cheap based on past earnings, it could be expensive based on future earnings.
Manhattan Associates shrunk earnings per share by 16% over the last year. But EPS is up 4.0% over the last 5 years. And EPS is down 8.4% a year, over the last 3 years. This could justify a low 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. Thus, the metric does not reflect cash or debt held by the company. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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.
Is Debt Impacting Manhattan Associates's P/E?
Since Manhattan Associates holds net cash of US$111m, it can spend on growth, justifying a higher P/E ratio than otherwise.
The Verdict On Manhattan Associates's P/E Ratio
Manhattan Associates has a P/E of 34.1. That's higher than the average in its market, which is 12.9. The recent drop in earnings per share would make some investors cautious, but the relatively strong balance sheet will allow the company time to invest in growth. Clearly, the high P/E indicates shareholders think it will! Given Manhattan Associates's P/E ratio has declined from 49.6 to 34.1 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.
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 visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course you might be able to find a better stock than Manhattan Associates. 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 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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