This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll look at Cadence Bancorporation's (NYSE:CADE) P/E ratio and reflect on what it tells us about the company's share price. Looking at earnings over the last twelve months, Cadence Bancorporation has a P/E ratio of 11.58. In other words, at today's prices, investors are paying $11.58 for every $1 in prior year profit.
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Cadence Bancorporation:
P/E of 11.58 = $17.93 ÷ $1.55 (Based on the year to September 2019.)
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. 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'.
Does Cadence Bancorporation 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 Cadence Bancorporation has a lower P/E than the average (13.1) in the banks industry classification.
Its relatively low P/E ratio indicates that Cadence Bancorporation shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with Cadence Bancorporation, it's quite possible it could surprise on the upside. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
P/E ratios primarily reflect market expectations around earnings growth rates. 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. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Cadence Bancorporation saw earnings per share decrease by 13% last year. But it has grown its earnings per share by 42% per year over the last three years.
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. 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.
Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).
How Does Cadence Bancorporation's Debt Impact Its P/E Ratio?
With net cash of US$684m, Cadence Bancorporation has a very strong balance sheet, which may be important for its business. Having said that, at 30% of its market capitalization the cash hoard would contribute towards a higher P/E ratio.
The Verdict On Cadence Bancorporation's P/E Ratio
Cadence Bancorporation has a P/E of 11.6. That's below the average in the US market, which is 18.9. The recent drop in earnings per share would make investors cautious, but the net cash position means the company has time to improve: if so, the low P/E could be an opportunity.
Investors should be looking to buy stocks that the market is wrong about. 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 visual report on analyst forecasts could hold the key to an excellent investment decision.
You might be able to find a better buy than Cadence Bancorporation. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
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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