A Rising Share Price Has Us Looking Closely At First BanCorp.'s (NYSE:FBP) P/E Ratio
First BanCorp (NYSE:FBP) shareholders are no doubt pleased to see that the share price has bounced 40% in the last month alone, although it is still down 48% over the last quarter. However, that doesn't change the fact that longer term shareholders might have been mercilessly wrecked by the 53% share price decline throughout the year.
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. 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). Investors have optimistic expectations of companies with higher P/E ratios, compared to companies with lower P/E ratios.
See our latest analysis for First BanCorp
How Does First BanCorp's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 7.13 that sentiment around First BanCorp isn't particularly high. We can see in the image below that the average P/E (8.9) for companies in the banks industry is higher than First BanCorp's P/E.
This suggests that market participants think First BanCorp 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. You should delve deeper. I like to check if company insiders have been buying or selling.
How Growth Rates Impact P/E Ratios
Probably the most important factor in determining what P/E a company trades on is the earnings growth. When earnings grow, the 'E' increases, over time. That means unless the share price increases, the P/E will reduce in a few years. Then, a lower P/E should attract more buyers, pushing the share price up.
First BanCorp saw earnings per share decrease by 18% last year. But EPS is up 20% over the last 3 years. And over the longer term (5 years) earnings per share have decreased 17% annually. This growth rate might warrant a below average P/E ratio.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
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. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
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.
First BanCorp's Balance Sheet
First BanCorp's net debt is 54% of its market cap. If you want to compare its P/E ratio to other companies, you should absolutely keep in mind it has significant borrowings.
The Verdict On First BanCorp's P/E Ratio
First BanCorp trades on a P/E ratio of 7.1, which is below the US market average of 13.6. When you consider that the company has significant debt, and didn't grow EPS last year, it isn't surprising that the market has muted expectations. What is very clear is that the market has become less pessimistic about First BanCorp over the last month, with the P/E ratio rising from 5.1 back then to 7.1 today. For those who like to invest in turnarounds, that might mean it's time to put the stock on a watchlist, or research it. But others might consider the opportunity to have passed.
Investors have an opportunity when market expectations about a stock are wrong. 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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.
You might be able to find a better buy than First BanCorp. 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 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.
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