Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. We'll show how you can use TripAdvisor, Inc.'s (NASDAQ:TRIP) P/E ratio to inform your assessment of the investment opportunity. What is TripAdvisor's P/E ratio? Well, based on the last twelve months it is 36.49. That corresponds to an earnings yield of approximately 2.7%.
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for TripAdvisor:
P/E of 36.49 = $31.06 ÷ $0.85 (Based on the trailing twelve months to September 2019.)
Is A High Price-to-Earnings Ratio Good?
The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
How Does TripAdvisor's P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. As you can see below, TripAdvisor has a higher P/E than the average company (24.7) in the interactive media and services industry.
That means that the market expects TripAdvisor will outperform other companies in its industry. The market is optimistic about the future, but that doesn't guarantee future growth. 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. 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.
TripAdvisor's 461% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. Unfortunately, earnings per share are down 10% a year, over 5 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. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
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.
TripAdvisor's Balance Sheet
With net cash of US$933m, TripAdvisor has a very strong balance sheet, which may be important for its business. Having said that, at 22% of its market capitalization the cash hoard would contribute towards a higher P/E ratio.
The Verdict On TripAdvisor's P/E Ratio
TripAdvisor's P/E is 36.5 which is above average (18.1) in its market. The excess cash it carries is the gravy on top its fast EPS growth. To us, this is the sort of company that we would expect to carry an above average price tag (relative to earnings).
Investors should be looking to buy stocks that the market is wrong about. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
You might be able to find a better buy than TripAdvisor. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
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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. Thank you for reading.