Those holding Parker-Hannifin (NYSE:PH) shares must be pleased that the share price has rebounded 35% in the last thirty days. But unfortunately, the stock is still down by 31% over a quarter. But shareholders may not all be feeling jubilant, since the share price is still down 27% in the last year.
All else being equal, a sharp share price increase should make a stock less attractive to potential investors. While the market sentiment towards a stock is very changeable, in the long run, the share price will tend to move in the same direction as earnings per share. So some would prefer to hold off buying when there is a lot of optimism towards a stock. 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). A high P/E ratio means that investors have a high expectation about future growth, while a low P/E ratio means they have low expectations about future growth.
Does Parker-Hannifin Have A Relatively High Or Low P/E For Its Industry?
We can tell from its P/E ratio of 13.02 that sentiment around Parker-Hannifin isn't particularly high. If you look at the image below, you can see Parker-Hannifin has a lower P/E than the average (16.0) in the machinery industry classification.
This suggests that market participants think Parker-Hannifin 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. It is arguably worth checking if insiders are buying shares, because that might imply they believe the stock is undervalued.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. When earnings grow, the 'E' increases, over time. That means unless the share price increases, the P/E will reduce in a few years. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Parker-Hannifin maintained roughly steady earnings over the last twelve months. But it has grown its earnings per share by 7.6% per year over the last five years.
Remember: P/E Ratios Don't Consider The Balance Sheet
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. 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 expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.
How Does Parker-Hannifin's Debt Impact Its P/E Ratio?
Parker-Hannifin has net debt equal to 49% of its market cap. While it's worth keeping this in mind, it isn't a worry.
The Verdict On Parker-Hannifin's P/E Ratio
Parker-Hannifin's P/E is 13.0 which is about average (13.6) in the US market. Given it has some debt, but didn't grow last year, the P/E indicates the market is expecting higher profits ahead for the business. What we know for sure is that investors have become more excited about Parker-Hannifin recently, since they have pushed its P/E ratio from 9.6 to 13.0 over the last month. For those who prefer to invest with the flow of momentum, that might mean it's time to put the stock on a watchlist, or research it. But the contrarian may see it as a missed opportunity.
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 visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course you might be able to find a better stock than Parker-Hannifin. So you may wish to see this free collection of other companies that have grown earnings strongly.
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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