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Read This Before You Buy Johnson Outdoors Inc. (NASDAQ:JOUT) Because Of Its P/E Ratio

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This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). To keep it practical, we'll show how Johnson Outdoors Inc.'s (NASDAQ:JOUT) P/E ratio could help you assess the value on offer. What is Johnson Outdoors's P/E ratio? Well, based on the last twelve months it is 15.52. That means that at current prices, buyers pay $15.52 for every $1 in trailing yearly profits.

Check out our latest analysis for Johnson Outdoors

How Do You Calculate A P/E Ratio?

The formula for price to earnings is:

Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)

Or for Johnson Outdoors:

P/E of 15.52 = $68.9 ÷ $4.44 (Based on the trailing twelve months to March 2019.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio implies that investors pay a higher price for the earning power of the business. 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.

Does Johnson Outdoors Have A Relatively High Or Low P/E For Its Industry?

We can get an indication of market expectations by looking at the P/E ratio. We can see in the image below that the average P/E (19) for companies in the leisure industry is higher than Johnson Outdoors's P/E.

NasdaqGS:JOUT Price Estimation Relative to Market, July 19th 2019
NasdaqGS:JOUT Price Estimation Relative to Market, July 19th 2019

Johnson Outdoors's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Many investors like to buy stocks when the market is pessimistic about their prospects. You should delve deeper. I like to check if company insiders have been buying or selling.

How Growth Rates Impact P/E Ratios

Earnings growth rates have a big influence on P/E ratios. 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.

Most would be impressed by Johnson Outdoors earnings growth of 13% in the last year. And its annual EPS growth rate over 5 years is 23%. This could arguably justify a relatively high P/E ratio.

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.

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).

Johnson Outdoors's Balance Sheet

Since Johnson Outdoors holds net cash of US$68m, it can spend on growth, justifying a higher P/E ratio than otherwise.

The Verdict On Johnson Outdoors's P/E Ratio

Johnson Outdoors trades on a P/E ratio of 15.5, which is below the US market average of 17.9. Not only should the net cash position reduce risk, but the recent growth has been impressive. The relatively low P/E ratio implies the market is pessimistic.

When the market is wrong about a stock, it gives savvy investors an opportunity. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. So this free report on the analyst consensus forecasts could help you make a master move on this stock.

You might be able to find a better buy than Johnson Outdoors. 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).

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 editorial-team@simplywallst.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.

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