Those holding Melco Resorts & Entertainment (NASDAQ:MLCO) shares must be pleased that the share price has rebounded 34% in the last thirty days. But unfortunately, the stock is still down by 22% over a quarter. But shareholders may not all be feeling jubilant, since the share price is still down 38% in the last year.
All else being equal, a sharp share price increase should make a stock less 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). The implication here is that deep value investors might steer clear when expectations of a company are too high. Perhaps the simplest way to get a read on investors' expectations of a business 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.
Does Melco Resorts & Entertainment Have A Relatively High Or Low P/E For Its Industry?
Melco Resorts & Entertainment's P/E of 20.30 indicates some degree of optimism towards the stock. You can see in the image below that the average P/E (15.0) for companies in the hospitality industry is lower than Melco Resorts & Entertainment's P/E.
Its relatively high P/E ratio indicates that Melco Resorts & Entertainment shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn't guaranteed. So further research is always essential. 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. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means unless the share price increases, the P/E will reduce in a few years. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.
It's great to see that Melco Resorts & Entertainment grew EPS by 15% in the last year. And earnings per share have improved by 31% annually, over the last three years. So one might expect an above average P/E ratio. Unfortunately, earnings per share are down 6.8% a year, over 5 years.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. So it won't reflect the advantage of cash, or disadvantage of debt. 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.
While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.
Is Debt Impacting Melco Resorts & Entertainment's P/E?
Net debt is 39% of Melco Resorts & Entertainment's market cap. While that's enough to warrant consideration, it doesn't really concern us.
The Verdict On Melco Resorts & Entertainment's P/E Ratio
Melco Resorts & Entertainment has a P/E of 20.3. That's higher than the average in its market, which is 14.9. Its debt levels do not imperil its balance sheet and it is growing EPS strongly. Therefore, it's not particularly surprising that it has a above average P/E ratio. What we know for sure is that investors have become much more excited about Melco Resorts & Entertainment recently, since they have pushed its P/E ratio from 15.2 to 20.3 over the last month. If you like to buy stocks that have recently impressed the market, then this one might be a candidate; but if you prefer to invest when there is 'blood in the streets', then you may feel the opportunity has passed.
Investors have an opportunity when market expectations about a stock are wrong. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. 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 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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