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Here's How P/E Ratios Can Help Us Understand BJ's Wholesale Club Holdings, Inc. (NYSE:BJ)

Simply Wall St

This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). To keep it practical, we'll show how BJ's Wholesale Club Holdings, Inc.'s (NYSE:BJ) P/E ratio could help you assess the value on offer. Based on the last twelve months, BJ's Wholesale Club Holdings's P/E ratio is 16.16. That means that at current prices, buyers pay $16.16 for every $1 in trailing yearly profits.

Check out our latest analysis for BJ's Wholesale Club Holdings

How Do I Calculate A Price To Earnings Ratio?

The formula for P/E is:

Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)

Or for BJ's Wholesale Club Holdings:

P/E of 16.16 = $24.78 ÷ $1.53 (Based on the year to August 2019.)

Is A High P/E Ratio Good?

A higher P/E ratio means that investors are paying a higher price for each $1 of company earnings. 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 BJ's Wholesale Club Holdings's P/E Ratio Compare To Its Peers?

We can get an indication of market expectations by looking at the P/E ratio. If you look at the image below, you can see BJ's Wholesale Club Holdings has a lower P/E than the average (20.1) in the consumer retailing industry classification.

NYSE:BJ Price Estimation Relative to Market, October 18th 2019

BJ's Wholesale Club Holdings'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 BJ's Wholesale Club Holdings, 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

Probably the most important factor in determining what P/E a company trades on is the earnings growth. 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. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

BJ's Wholesale Club Holdings increased earnings per share by a whopping 43% last year. And earnings per share have improved by 40% annually, over the last five years. With that performance, I would expect it to have an above average P/E ratio.

Don't Forget: The P/E Does Not Account For Debt or Bank Deposits

One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. 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.

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).

So What Does BJ's Wholesale Club Holdings's Balance Sheet Tell Us?

BJ's Wholesale Club Holdings's net debt is 52% of its market cap. This is a reasonably significant level of debt -- all else being equal you'd expect a much lower P/E than if it had net cash.

The Verdict On BJ's Wholesale Club Holdings's P/E Ratio

BJ's Wholesale Club Holdings's P/E is 16.2 which is below average (17.7) in the US market. The company may have significant debt, but EPS growth was good last year. The low P/E ratio suggests current market expectations are muted, implying these levels of growth will not continue.

Investors should be looking to buy stocks that the market is wrong about. 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.

You might be able to find a better buy than BJ's Wholesale Club Holdings. 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).

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.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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. Thank you for reading.