To the annoyance of some shareholders, INFICON Holding (VTX:IFCN) shares are down a considerable 35% in the last month. Even longer term holders have taken a real hit with the stock declining 5.4% in the last year.
Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). The implication here is that long term investors have an opportunity when expectations of a company are too low. Perhaps the simplest way to get a read on investors' expectations of a business is to look at its Price to Earnings Ratio (PE Ratio). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.
Does INFICON Holding Have A Relatively High Or Low P/E For Its Industry?
We can tell from its P/E ratio of 24.28 that there is some investor optimism about INFICON Holding. As you can see below, INFICON Holding has a higher P/E than the average company (16.5) in the electronic industry.
INFICON Holding's P/E tells us that market participants think the company will perform better than its industry peers, going forward. Shareholders are clearly optimistic, but the future is always uncertain. So investors 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. Earnings growth means that in the future the 'E' will be higher. That means unless the share price increases, the P/E will reduce in a few years. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.
INFICON Holding shrunk earnings per share by 18% over the last year. But over the longer term (5 years) earnings per share have increased by 6.2%.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. So it won't reflect the advantage of cash, or disadvantage of debt. 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.
Is Debt Impacting INFICON Holding's P/E?
Since INFICON Holding holds net cash of US$50m, it can spend on growth, justifying a higher P/E ratio than otherwise.
The Bottom Line On INFICON Holding's P/E Ratio
INFICON Holding has a P/E of 24.3. That's higher than the average in its market, which is 16.1. Falling earnings per share is probably keeping traditional value investors away, but the healthy balance sheet means the company retains the potential for future growth. If this growth fails to materialise, the current high P/E could prove to be temporary, as the share price falls. What can be absolutely certain is that the market has become significantly less optimistic about INFICON Holding over the last month, with the P/E ratio falling from 37.4 back then to 24.3 today. For those who prefer to invest with the flow of momentum, that might be a bad sign, but for a contrarian, it may signal opportunity.
Investors have an opportunity when market expectations about a stock are wrong. 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.
But note: INFICON Holding 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).
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.
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