Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. We'll show how you can use Henry Schein, Inc.'s (NASDAQ:HSIC) P/E ratio to inform your assessment of the investment opportunity. Henry Schein has a P/E ratio of 18.02, based on the last twelve months. That is equivalent to an earnings yield of about 5.5%.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Henry Schein:
P/E of 18.02 = $63.26 ÷ $3.51 (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 $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.
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. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. That means unless the share price increases, the P/E will reduce in a few years. Then, a lower P/E should attract more buyers, pushing the share price up.
Henry Schein increased earnings per share by a whopping 35% last year. And earnings per share have improved by 6.9% annually, over the last five years. I'd therefore be a little surprised if its P/E ratio was not relatively high.
Does Henry Schein Have A Relatively High Or Low P/E For Its Industry?
The P/E ratio indicates whether the market has higher or lower expectations of a company. If you look at the image below, you can see Henry Schein has a lower P/E than the average (21.8) in the healthcare industry classification.
This suggests that market participants think Henry Schein will underperform other companies in its industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. You should delve deeper. I like to check if company insiders have been buying or selling.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
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. 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.
How Does Henry Schein's Debt Impact Its P/E Ratio?
Henry Schein has net debt worth 20% of its market capitalization. It would probably deserve a higher P/E ratio if it was net cash, since it would have more options for growth.
The Bottom Line On Henry Schein's P/E Ratio
Henry Schein has a P/E of 18. That's around the same as the average in the US market, which is 18.3. Given it has reasonable debt levels, and grew earnings strongly last year, the P/E indicates the market has doubts this growth can be sustained.
Investors have an opportunity when market expectations about a stock are wrong. 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 report on the analyst consensus forecasts could help you make a master move on this stock.
But note: Henry Schein 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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