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Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. To keep it practical, we'll show how UCB SA's (EBR:UCB) P/E ratio could help you assess the value on offer. UCB has a P/E ratio of 17.35, based on the last twelve months. That corresponds to an earnings yield of approximately 5.8%.
How Do I Calculate UCB's Price To Earnings Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for UCB:
P/E of 17.35 = €72.92 ÷ €4.2 (Based on the trailing twelve months to December 2018.)
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 isn't necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
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. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
UCB's earnings per share grew by -5.2% in the last twelve months. And it has bolstered its earnings per share by 56% per year over the last five years.
How Does UCB's P/E Ratio Compare To Its Peers?
The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that UCB has a lower P/E than the average (22.3) P/E for companies in the pharmaceuticals industry.
Its relatively low P/E ratio indicates that UCB shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with UCB, 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.
Remember: P/E Ratios Don't Consider The Balance Sheet
Don't forget that the P/E ratio considers market capitalization. That means it doesn't take debt or cash into account. In theory, a company can lower its future P/E ratio by using cash or debt to invest in 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 UCB's Debt Impact Its P/E Ratio?
UCB's net debt is 1.6% of its market cap. So it doesn't have as many options as it would with net cash, but its debt would not have much of an impact on its P/E ratio.
The Bottom Line On UCB's P/E Ratio
UCB's P/E is 17.4 which is above average (14.3) in the BE market. Given the debt is only modest, and earnings are already moving in the right direction, it's not surprising that the market expects continued improvement.
Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
Of course you might be able to find a better stock than UCB. So you may wish to see this free collection of other companies that have grown earnings strongly.
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.