This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We'll look at Gilat Satellite Networks Ltd.'s (NASDAQ:GILT) P/E ratio and reflect on what it tells us about the company's share price. Gilat Satellite Networks has a price to earnings ratio of 22.07, based on the last twelve months. That is equivalent to an earnings yield of about 4.5%.
How Do I Calculate A Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Gilat Satellite Networks:
P/E of 22.07 = $8.07 ÷ $0.37 (Based on the year to June 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 Gilat Satellite Networks's P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. If you look at the image below, you can see Gilat Satellite Networks has a lower P/E than the average (30.4) in the communications industry classification.
Its relatively low P/E ratio indicates that Gilat Satellite Networks shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with Gilat Satellite Networks, 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
Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. Earnings growth means that in the future the 'E' will be higher. That means even if the current P/E is high, it will reduce over time if the share price stays flat. Then, a lower P/E should attract more buyers, pushing the share price up.
Gilat Satellite Networks's earnings made like a rocket, taking off 102% last year.
Remember: P/E Ratios Don't Consider The Balance Sheet
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. That means it doesn't take debt or cash into account. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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.
How Does Gilat Satellite Networks's Debt Impact Its P/E Ratio?
The extra options and safety that comes with Gilat Satellite Networks's US$32m net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.
The Verdict On Gilat Satellite Networks's P/E Ratio
Gilat Satellite Networks trades on a P/E ratio of 22.1, which is above its market average of 17.3. The excess cash it carries is the gravy on top its fast EPS growth. To us, this is the sort of company that we would expect to carry an above average price tag (relative to earnings).
When the market is wrong about a stock, it gives savvy investors an opportunity. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. We don't have analyst forecasts, but shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.
Of course you might be able to find a better stock than Gilat Satellite Networks. So you may wish to see this free collection of other companies that have grown earnings strongly.
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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.