This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll show how you can use West Bancorporation, Inc.’s (NASDAQ:WTBA) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, West Bancorporation’s P/E ratio is 12.49. In other words, at today’s prices, investors are paying $12.49 for every $1 in prior year profit.
How Do I Calculate A Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for West Bancorporation:
P/E of 12.49 = $19.58 ÷ $1.57 (Based on the trailing twelve months to September 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each $1 of company 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 Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. 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. A lower P/E should indicate the stock is cheap relative to others — and that may attract buyers.
West Bancorporation had pretty flat EPS growth in the last year. But over the longer term (5 years) earnings per share have increased by 8.1%.
How Does West Bancorporation’s P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. If you look at the image below, you can see West Bancorporation has a lower P/E than the average (14.1) in the banks industry classification.
Its relatively low P/E ratio indicates that West Bancorporation shareholders think it will struggle to do as well as other companies in its industry classification. Many investors like to buy stocks when the market is pessimistic about their prospects. It is arguably worth checking if insiders are buying shares, because that might imply they believe the stock is undervalued.
Remember: P/E Ratios Don’t Consider The Balance Sheet
The ‘Price’ in P/E reflects the market capitalization of the company. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Theoretically, a business can improve its earnings (and produce a lower P/E in the future), by taking on debt (or spending its remaining cash).
Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).
Is Debt Impacting West Bancorporation’s P/E?
West Bancorporation has net debt worth 35% of its market capitalization. This is a reasonably significant level of debt — all else being equal you’d expect a much lower P/E than if it had net cash.
The Verdict On West Bancorporation’s P/E Ratio
West Bancorporation trades on a P/E ratio of 12.5, which is below the US market average of 16. The company does have a little debt, and EPS is moving in the right direction. If growth is sustainable over the long term, then the current P/E ratio may be a sign of good value.
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 they 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.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.