U.S. Markets closed

A Rising Share Price Has Us Looking Closely At Iliad SA's (EPA:ILD) P/E Ratio

Simply Wall St

Iliad (EPA:ILD) shareholders are no doubt pleased to see that the share price has had a great month, posting a 32% gain, recovering from prior weakness. The full year gain of 15% is pretty reasonable, too.

Assuming no other changes, a sharply higher share price makes a stock less attractive to potential buyers. 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. The implication here is that deep value investors might steer clear when expectations of a company are too high. One way to gauge market expectations of a stock 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.

Check out our latest analysis for Iliad

How Does Iliad's P/E Ratio Compare To Its Peers?

We can tell from its P/E ratio of 37.15 that there is some investor optimism about Iliad. You can see in the image below that the average P/E (21.2) for companies in the telecom industry is lower than Iliad's P/E.

ENXTPA:ILD Price Estimation Relative to Market, November 13th 2019

Iliad's P/E tells us that market participants think the company will perform better than its industry peers, going forward. Clearly the market expects growth, but it isn't guaranteed. So investors should delve deeper. I like to check if company insiders have been buying or selling.

How Growth Rates Impact P/E Ratios

Companies that shrink earnings per share quickly will rapidly decrease the 'E' in the equation. That means unless the share price falls, the P/E will increase in a few years. Then, a higher P/E might scare off shareholders, pushing the share price down.

Iliad saw earnings per share decrease by 51% last year. And it has shrunk its earnings per share by 7.5% per year over the last five years. This could justify a pessimistic P/E.

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. In other words, it does not consider any debt or cash that the company may have on the balance sheet. 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.

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.

Iliad's Balance Sheet

Iliad has net debt worth 68% of its market capitalization. This is enough debt that you'd have to make some adjustments before using the P/E ratio to compare it to a company with net cash.

The Bottom Line On Iliad's P/E Ratio

Iliad's P/E is 37.2 which is above average (18.0) in its market. With relatively high debt, and no earnings per share growth over twelve months, it's safe to say the market believes the company will improve its earnings growth in the future. What we know for sure is that investors have become much more excited about Iliad recently, since they have pushed its P/E ratio from 28.0 to 37.2 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.

Investors should be looking to buy stocks that the market is wrong about. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. So this free report on the analyst consensus forecasts could help you make a master move on this stock.

Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E 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 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.