This article is written for those who want to get better at using price to earnings ratios (P/E ratios). To keep it practical, we'll show how Mytilineos S.A.'s (ATH:MYTIL) P/E ratio could help you assess the value on offer. Mytilineos has a P/E ratio of 9.59, based on the last twelve months. That corresponds to an earnings yield of approximately 10.4%.
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 Mytilineos:
P/E of 9.59 = €9.63 ÷ €1.00 (Based on the trailing twelve months to June 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio implies that investors pay a higher price for the earning power of the business. All else being equal, it's better to pay a low price -- but as Warren Buffett said, 'It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price'.
Does Mytilineos Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that Mytilineos has a lower P/E than the average (19.0) P/E for companies in the industrials industry.
Mytilineos's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Since the market seems unimpressed with Mytilineos, 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
P/E ratios primarily reflect market expectations around earnings growth rates. Earnings growth means that in the future the 'E' will be higher. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. Then, a lower P/E should attract more buyers, pushing the share price up.
Mytilineos's earnings per share fell by 8.8% in the last twelve months. But it has grown its earnings per share by 36% per year over the last five years.
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 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).
Mytilineos's Balance Sheet
Net debt is 27% of Mytilineos's market cap. While it's worth keeping this in mind, it isn't a worry.
The Bottom Line On Mytilineos's P/E Ratio
Mytilineos has a P/E of 9.6. That's below the average in the GR market, which is 16.1. With only modest debt, it's likely the lack of EPS growth at least partially explains the pessimism implied by the P/E ratio.
Investors have an opportunity when market expectations about a stock are wrong. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. 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.
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.
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