Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. We'll look at Flagstar Bancorp, Inc.'s (NYSE:FBC) P/E ratio and reflect on what it tells us about the company's share price. Flagstar Bancorp has a price to earnings ratio of 10.62, based on the last twelve months. That means that at current prices, buyers pay $10.62 for every $1 in trailing yearly profits.
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Flagstar Bancorp:
P/E of 10.62 = $36.98 ÷ $3.48 (Based on the trailing twelve months to June 2019.)
Is A High P/E Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. 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 Does Flagstar Bancorp's P/E Ratio Compare To Its Peers?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. The image below shows that Flagstar Bancorp has a lower P/E than the average (14.9) P/E for companies in the mortgage industry.
This suggests that market participants think Flagstar Bancorp will underperform other companies in its industry. Since the market seems unimpressed with Flagstar Bancorp, it's quite possible it could surprise on the upside. You should delve deeper. I like to check if company insiders have been buying or selling.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. 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. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.
In the last year, Flagstar Bancorp grew EPS like Taylor Swift grew her fan base back in 2010; the 149% gain was both fast and well deserved. Having said that, the average EPS growth over the last three years wasn't so good, coming in at 13%.
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. So it won't reflect the advantage of cash, or disadvantage of debt. 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 Flagstar Bancorp's Debt Impact Its P/E Ratio?
Net debt totals a substantial 128% of Flagstar Bancorp's market cap. This is a relatively high level of debt, so the stock probably deserves a relatively low P/E ratio. Keep that in mind when comparing it to other companies.
The Bottom Line On Flagstar Bancorp's P/E Ratio
Flagstar Bancorp trades on a P/E ratio of 10.6, which is below the US market average of 18.2. The company may have significant debt, but EPS growth was good last year. If it continues to grow, then the current low P/E may prove to be unjustified.
When the market is wrong about a stock, it gives savvy investors an opportunity. 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 report on the analyst consensus forecasts could help you make a master move on this stock.
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.
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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.