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 Apollo Tourism & Leisure Ltd's (ASX:ATL) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, Apollo Tourism & Leisure's P/E ratio is 4.11. In other words, at today's prices, investors are paying A$4.11 for every A$1 in prior year profit.
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Apollo Tourism & Leisure:
P/E of 4.11 = A$0.41 ÷ A$0.099 (Based on the trailing twelve months to December 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each A$1 of company earnings. That isn't a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business's prospects, relative to stocks with a lower P/E.
Does Apollo Tourism & Leisure 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. The image below shows that Apollo Tourism & Leisure has a lower P/E than the average (10.1) P/E for companies in the auto industry.
Its relatively low P/E ratio indicates that Apollo Tourism & Leisure shareholders think it will struggle to do as well as other companies in its industry classification. Many investors like to buy stocks when the market is pessimistic about their prospects. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and 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. When earnings grow, the 'E' increases, over time. And in that case, the P/E ratio itself will drop rather quickly. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
Apollo Tourism & Leisure's earnings per share fell by 39% in the last twelve months. But over the longer term (3 years), earnings per share have increased by 25%.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
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. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
Apollo Tourism & Leisure's Balance Sheet
Net debt is 47% of Apollo Tourism & Leisure's market cap. While that's enough to warrant consideration, it doesn't really concern us.
The Bottom Line On Apollo Tourism & Leisure's P/E Ratio
Apollo Tourism & Leisure's P/E is 4.1 which is below average (16.4) in the AU market. 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 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 visual report on analyst forecasts could hold the key to an excellent investment decision.
But note: Apollo Tourism & Leisure may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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 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.