The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We'll show how you can use United Parcel Service, Inc.'s (NYSE:UPS) P/E ratio to inform your assessment of the investment opportunity. United Parcel Service has a P/E ratio of 21.6, based on the last twelve months. That is equivalent to an earnings yield of about 4.6%.
How Do I Calculate United Parcel Service's Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for United Parcel Service:
P/E of 21.6 = $118.66 ÷ $5.49 (Based on the trailing twelve months to June 2019.)
Is A High Price-to-Earnings Ratio Good?
The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. All else being equal, it's better to pay a low price -- but as Warren Buffett said, 'It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price.'
How Does United Parcel Service's P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. As you can see below United Parcel Service has a P/E ratio that is fairly close for the average for the logistics industry, which is 21.8.
United Parcel Service's P/E tells us that market participants think its prospects are roughly in line with its industry. So if United Parcel Service actually outperforms its peers going forward, that should be a positive for the share price. I would further inform my view by checking insider buying and selling., among other things.
How Growth Rates Impact P/E Ratios
If earnings fall then in the future the 'E' will be lower. That means even if the current P/E is low, it will increase over time if the share price stays flat. Then, a higher P/E might scare off shareholders, pushing the share price down.
United Parcel Service's earnings per share fell by 8.1% in the last twelve months. But over the longer term (5 years) earnings per share have increased by 7.0%.
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. That means it doesn't take debt or cash into account. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.
Is Debt Impacting United Parcel Service's P/E?
United Parcel Service's net debt is 18% of its market cap. That's enough debt to impact the P/E ratio a little; so keep it in mind if you're comparing it to companies without debt.
The Verdict On United Parcel Service's P/E Ratio
United Parcel Service's P/E is 21.6 which is above average (17.3) in its market. With a bit of debt, but a lack of recent growth, it's safe to say the market is expecting improved profit performance from the company, in the next few years.
Investors should be looking to buy stocks that the market is wrong about. 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 visual report on analyst forecasts could hold the key to an excellent investment decision.
But note: United Parcel Service 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 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.