The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). To keep it practical, we'll show how RCI Hospitality Holdings, Inc.'s (NASDAQ:RICK) P/E ratio could help you assess the value on offer. Based on the last twelve months, RCI Hospitality Holdings's P/E ratio is 11.74. That is equivalent to an earnings yield of about 8.5%.
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 RCI Hospitality Holdings:
P/E of 11.74 = $19.46 ÷ $1.66 (Based on the year 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. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
Does RCI Hospitality Holdings Have A Relatively High Or Low P/E For Its Industry?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. If you look at the image below, you can see RCI Hospitality Holdings has a lower P/E than the average (21.9) in the hospitality industry classification.
RCI Hospitality 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 RCI Hospitality 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
Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. And in that case, the P/E ratio itself will drop rather quickly. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
RCI Hospitality Holdings saw earnings per share decrease by 27% last year. But EPS is up 14% over the last 5 years.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
Don't forget that the P/E ratio considers market capitalization. So it won't reflect the advantage of cash, or disadvantage of debt. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on growth.
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.
How Does RCI Hospitality Holdings's Debt Impact Its P/E Ratio?
Net debt totals 72% of RCI Hospitality Holdings's market cap. This is enough debt that you'd have to make some adjustments before using the P/E ratio to compare it to a company with net cash.
The Bottom Line On RCI Hospitality Holdings's P/E Ratio
RCI Hospitality Holdings trades on a P/E ratio of 11.7, which is below the US market average of 18.2. Given meaningful debt, and a lack of recent growth, the market looks to be extrapolating this recent performance; reflecting low expectations for the future.
When the market is wrong about a stock, it gives savvy investors an opportunity. As value investor Benjamin Graham famously said, 'In the short run, the market is a voting machine but in the long run, it is a weighing machine. So this free visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
But note: RCI Hospitality Holdings 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).
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If you spot an error that warrants correction, please contact the editor at email@example.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.