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PagSeguro Digital (NYSE:PAGS) shareholders are no doubt pleased to see that the share price has bounced 34% in the last month alone, although it is still down 42% over the last quarter. But shareholders may not all be feeling jubilant, since the share price is still down 17% in the last year.
Assuming no other changes, a sharply higher share price makes a stock less 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). 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.
How Does PagSeguro Digital's P/E Ratio Compare To Its Peers?
PagSeguro Digital's P/E is 26.54. The image below shows that PagSeguro Digital has a P/E ratio that is roughly in line with the it industry average (26.4).
Its P/E ratio suggests that PagSeguro Digital shareholders think that in the future it will perform about the same as other companies in its industry classification. So if PagSeguro Digital actually outperforms its peers going forward, that should be a positive for the share price. Checking factors such as director buying and selling. could help you form your own view on if that will happen.
How Growth Rates Impact P/E Ratios
P/E ratios primarily reflect market expectations around earnings growth rates. When earnings grow, the 'E' increases, over time. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
It's nice to see that PagSeguro Digital grew EPS by a stonking 45% in the last year. And its annual EPS growth rate over 5 years is 111%. With that performance, I would expect it to have an above average P/E ratio.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
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 PagSeguro Digital's Debt Impact Its P/E Ratio?
The extra options and safety that comes with PagSeguro Digital's R$2.8b net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.
The Verdict On PagSeguro Digital's P/E Ratio
PagSeguro Digital has a P/E of 26.5. That's higher than the average in its market, which is 13.2. Its net cash position is the cherry on top of its superb EPS growth. To us, this is the sort of company that we would expect to carry an above average price tag (relative to earnings). What is very clear is that the market has become significantly more optimistic about PagSeguro Digital over the last month, with the P/E ratio rising from 19.8 back then to 26.5 today. 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.
When the market is wrong about a stock, it gives savvy investors an opportunity. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. 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 PagSeguro Digital. 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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