To the annoyance of some shareholders, WESCO International (NYSE:WCC) shares are down a considerable 43% in the last month. That drop has capped off a tough year for shareholders, with the share price down 49% in that time.
All else being equal, a share price drop should make a stock more 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. The implication here is that long term investors have an opportunity when expectations of a company are too low. 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 WESCO International Have A Relatively High Or Low P/E For Its Industry?
WESCO International's P/E of 5.24 indicates relatively low sentiment towards the stock. The image below shows that WESCO International has a lower P/E than the average (12.5) P/E for companies in the trade distributors industry.
This suggests that market participants think WESCO International will underperform other companies in its industry. Since the market seems unimpressed with WESCO International, 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
Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. Then, a lower P/E should attract more buyers, pushing the share price up.
WESCO International increased earnings per share by 6.5% last year. And its annual EPS growth rate over 3 years is 31%. In contrast, EPS has decreased by 3.5%, annually, 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. In theory, a company can lower its future P/E ratio by using cash or debt to invest in 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 WESCO International's Debt Impact Its P/E Ratio?
WESCO International has net debt worth a very significant 101% of its market capitalization. If you want to compare its P/E ratio to other companies, you must keep in mind that these debt levels would usually warrant a relatively low P/E.
The Bottom Line On WESCO International's P/E Ratio
WESCO International's P/E is 5.2 which is below average (15.1) in the US market. The meaningful debt load is probably contributing to low expectations, even though it has improved earnings recently. What can be absolutely certain is that the market has become more pessimistic about WESCO International over the last month, with the P/E ratio falling from 9.2 back then to 5.2 today. For those who prefer to invest with the flow of momentum, that might be a bad sign, but for deep value investors this stock might justify some research.
Investors have an opportunity when market expectations about a stock are wrong. 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 visual report on analyst forecasts could hold the key to an excellent investment decision.
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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