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This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll look at Herbalife Nutrition Ltd.’s (NYSE:HLF) P/E ratio and reflect on what it tells us about the company’s share price. Herbalife Nutrition has a P/E ratio of 46.11, based on the last twelve months. That corresponds to an earnings yield of approximately 2.2%.
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Herbalife Nutrition:
P/E of 46.11 = $59.7 ÷ $1.29 (Based on the year to September 2018.)
Is A High P/E Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each $1 the company has earned over the last year. That isn’t a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business’s prospects, relative to stocks with a lower P/E.
How Growth Rates Impact P/E Ratios
When earnings fall, the ‘E’ decreases, over time. That means unless the share price falls, the P/E will increase in a few years. So while a stock may look cheap based on past earnings, it could be expensive based on future earnings.
Herbalife Nutrition shrunk earnings per share by 44% over the last year. And over the longer term (5 years) earnings per share have decreased 10% annually. This could justify a pessimistic P/E.
How Does Herbalife Nutrition’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. As you can see below, Herbalife Nutrition has a higher P/E than the average company (27.4) in the personal products industry.
That means that the market expects Herbalife Nutrition will outperform other companies in its industry. The market is optimistic about the future, but that doesn’t guarantee future growth. So investors should delve deeper. I like to check if company insiders have been buying or selling.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
It’s important to note that the P/E ratio considers the market capitalization, not the enterprise value. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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.
Herbalife Nutrition’s Balance Sheet
Herbalife Nutrition has net debt worth 14% of its market capitalization. It would probably deserve a higher P/E ratio if it was net cash, since it would have more options for growth.
The Verdict On Herbalife Nutrition’s P/E Ratio
Herbalife Nutrition’s P/E is 46.1 which is above average (16.7) in the US market. With a bit of debt, but a lack of recent growth, it’s safe to say the market is expecting improved profit performance from the company, in the next few years.
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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
Of course you might be able to find a better stock than Herbalife Nutrition. So you may wish to see this free collection of other companies that have grown earnings strongly.
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 email@example.com.