Unfortunately for some shareholders, the National Tyre & Wheel (ASX:NTD) share price has dived 46% in the last thirty days. That drop has capped off a tough year for shareholders, with the share price down 57% in that time.
Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. 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). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.
How Does National Tyre & Wheel's P/E Ratio Compare To Its Peers?
National Tyre & Wheel's P/E of 4.28 indicates relatively low sentiment towards the stock. The image below shows that National Tyre & Wheel has a lower P/E than the average (13.0) P/E for companies in the retail distributors industry.
National Tyre & Wheel's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Since the market seems unimpressed with National Tyre & Wheel, it's quite possible it could surprise on the upside. 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
Companies that shrink earnings per share quickly will rapidly decrease the 'E' in the equation. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. A higher P/E should indicate the stock is expensive relative to others -- and that may encourage shareholders to sell.
National Tyre & Wheel saw earnings per share decrease by 40% last year. And EPS is down 14% a year, over the last 3 years. This growth rate might warrant a low P/E ratio.
Remember: P/E Ratios Don't Consider The Balance Sheet
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. 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 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.
How Does National Tyre & Wheel's Debt Impact Its P/E Ratio?
National Tyre & Wheel has net cash of AU$5.3m. This is fairly high at 19% of its market capitalization. That might mean balance sheet strength is important to the business, but should also help push the P/E a bit higher than it would otherwise be.
The Bottom Line On National Tyre & Wheel's P/E Ratio
National Tyre & Wheel's P/E is 4.3 which is below average (12.6) in the AU market. The recent drop in earnings per share would almost certainly temper expectations, the relatively strong balance sheet will allow the company time to invest in growth. If it achieves that, then there's real potential that the low P/E could eventually indicate undervaluation. What can be absolutely certain is that the market has become more pessimistic about National Tyre & Wheel over the last month, with the P/E ratio falling from 8.0 back then to 4.3 today. For those who prefer invest in growth, this stock apparently offers limited promise, but the deep value investors may find the pessimism around this stock enticing.
When the market is wrong about a stock, it gives savvy investors an opportunity. 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 report on the analyst consensus forecasts could help you make a master move on this stock.
Of course you might be able to find a better stock than National Tyre & Wheel. 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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