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How Does Omega Flex's (NASDAQ:OFLX) P/E Compare To Its Industry, After Its Big Share Price Gain?

Simply Wall St

Omega Flex (NASDAQ:OFLX) shareholders are no doubt pleased to see that the share price has had a great month, posting a 34% gain, recovering from prior weakness. The full year gain of 21% is pretty reasonable, too.

All else being equal, a sharp share price increase should make a stock less attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. So some would prefer to hold off buying when there is a lot of optimism towards a stock. One way to gauge market expectations of a stock is to look at its Price to Earnings Ratio (PE Ratio). A high P/E ratio means that investors have a high expectation about future growth, while a low P/E ratio means they have low expectations about future growth.

See our latest analysis for Omega Flex

How Does Omega Flex's P/E Ratio Compare To Its Peers?

We can tell from its P/E ratio of 61.15 that there is some investor optimism about Omega Flex. As you can see below, Omega Flex has a much higher P/E than the average company (18.7) in the machinery industry.

NasdaqGM:OFLX Price Estimation Relative to Market May 25th 2020
NasdaqGM:OFLX Price Estimation Relative to Market May 25th 2020

Its relatively high P/E ratio indicates that Omega Flex shareholders think it will perform better than other companies in its industry classification. Shareholders are clearly optimistic, but the future is always uncertain. So investors should delve deeper. I like to check if company insiders have been buying or selling.

How Growth Rates Impact P/E Ratios

Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.

Omega Flex saw earnings per share decrease by 15% last year. But it has grown its earnings per share by 3.7% per year over the last five years.

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. That means it doesn't take debt or cash into account. 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.

Is Debt Impacting Omega Flex's P/E?

The extra options and safety that comes with Omega Flex's US$14m net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.

The Bottom Line On Omega Flex's P/E Ratio

With a P/E ratio of 61.2, Omega Flex is expected to grow earnings very strongly in the years to come. 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! What we know for sure is that investors have become much more excited about Omega Flex recently, since they have pushed its P/E ratio from 45.5 to 61.2 over the last month. For those who prefer to invest with the flow of momentum, that might mean it's time to put the stock on a watchlist, or research it. But the contrarian may see it as a missed opportunity.

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. Although we don't have analyst forecasts shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.

Of course you might be able to find a better stock than Omega Flex. So you may wish to see this free collection of other companies that have grown earnings strongly.

Love or hate this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.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. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned. Thank you for reading.