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 U.S. Physical Therapy, Inc.'s (NYSE:USPH) P/E ratio to inform your assessment of the investment opportunity. Looking at earnings over the last twelve months, U.S. Physical Therapy has a P/E ratio of 72.76. That is equivalent to an earnings yield of about 1.4%.
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 U.S. Physical Therapy:
P/E of 72.76 = $131.69 ÷ $1.81 (Based on the trailing twelve months to June 2019.)
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 is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
Does U.S. Physical Therapy Have A Relatively High Or Low P/E For Its Industry?
We can get an indication of market expectations by looking at the P/E ratio. You can see in the image below that the average P/E (19.4) for companies in the healthcare industry is a lot lower than U.S. Physical Therapy's P/E.
That means that the market expects U.S. Physical Therapy will outperform other companies in its industry. Clearly the market expects growth, but it isn't guaranteed. So investors should delve deeper. I like to check if company insiders have been buying or selling.
How Growth Rates Impact P/E Ratios
Probably the most important factor in determining what P/E a company trades on is the earnings growth. Earnings growth means that in the future the 'E' will be higher. That means unless the share price increases, the P/E will reduce in a few years. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
U.S. Physical Therapy saw earnings per share improve by -4.8% last year. And it has bolstered its earnings per share by 3.8% per year over the last five years.
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. So it won't reflect the advantage of cash, or disadvantage of debt. 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).
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).
How Does U.S. Physical Therapy's Debt Impact Its P/E Ratio?
U.S. Physical Therapy's net debt is 1.9% of its market cap. So it doesn't have as many options as it would with net cash, but its debt would not have much of an impact on its P/E ratio.
The Bottom Line On U.S. Physical Therapy's P/E Ratio
U.S. Physical Therapy's P/E is 72.8 which suggests the market is more focussed on the future opportunity rather than the current level of earnings. With debt at prudent levels and improving earnings, it's fair to say the market expects steady progress in the future.
Investors have an opportunity when market expectations about a stock are wrong. 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 U.S. Physical Therapy. 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 firstname.lastname@example.org. 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.