Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. To keep it practical, we'll show how Orange Belgium S.A.'s (EBR:OBEL) P/E ratio could help you assess the value on offer. Based on the last twelve months, Orange Belgium's P/E ratio is 35.28. That corresponds to an earnings yield of approximately 2.8%.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Orange Belgium:
P/E of 35.28 = EUR20.00 ÷ EUR0.57 (Based on the year to December 2019.)
Is A High P/E Ratio Good?
The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That isn't necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
Does Orange Belgium Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio essentially measures market expectations of a company. You can see in the image below that the average P/E (24.5) for companies in the wireless telecom industry is lower than Orange Belgium's P/E.
Its relatively high P/E ratio indicates that Orange Belgium shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn't guaranteed. So further research is always essential. I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
Companies that shrink earnings per share quickly will rapidly decrease the 'E' in the equation. That means unless the share price falls, the P/E will increase in a few years. Then, a higher P/E might scare off shareholders, pushing the share price down.
Orange Belgium increased earnings per share by 4.6% last year. In contrast, EPS has decreased by 4.7%, annually, over 5 years.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.
Is Debt Impacting Orange Belgium's P/E?
Orange Belgium has net debt worth 19% 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 Bottom Line On Orange Belgium's P/E Ratio
Orange Belgium trades on a P/E ratio of 35.3, which is above its market average of 17.4. With modest debt relative to its size, and modest earnings growth, the market is likely expecting sustained long-term growth, if not a near-term improvement.
Investors have an opportunity when market expectations about a stock are wrong. As value investor Benjamin Graham famously said, 'In the short run, the market is a voting machine but in the long run, it is a weighing machine. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course you might be able to find a better stock than Orange Belgium. 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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.