Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. To keep it practical, we'll show how Wabash National Corporation's (NYSE:WNC) P/E ratio could help you assess the value on offer. What is Wabash National's P/E ratio? Well, based on the last twelve months it is 13.35. In other words, at today's prices, investors are paying $13.35 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 Wabash National:
P/E of 13.35 = $14.86 ÷ $1.11 (Based on the year to June 2019.)
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 is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
How Does Wabash National's P/E Ratio Compare To Its Peers?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. The image below shows that Wabash National has a lower P/E than the average (20.7) P/E for companies in the machinery industry.
This suggests that market participants think Wabash National will underperform other companies in its 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
When earnings fall, the 'E' decreases, over time. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. Then, a higher P/E might scare off shareholders, pushing the share price down.
Wabash National's earnings per share fell by 47% in the last twelve months. But it has grown its earnings per share by 9.0% per year over the last five years. And over the longer term (3 years) earnings per share have decreased 17% annually. This might lead to low expectations.
Don't Forget: The P/E Does Not Account For Debt or Bank Deposits
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. In other words, it does not consider any debt or cash that the company may have on the balance sheet. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
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.
How Does Wabash National's Debt Impact Its P/E Ratio?
Wabash National has net debt equal to 43% of its market cap. While that's enough to warrant consideration, it doesn't really concern us.
The Bottom Line On Wabash National's P/E Ratio
Wabash National has a P/E of 13.4. That's below the average in the US market, which is 17.6. With only modest debt, it's likely the lack of EPS growth at least partially explains the pessimism implied by the P/E ratio.
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.
You might be able to find a better buy than Wabash National. 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).
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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.