MGP Ingredients (NASDAQ:MGPI) shareholders are no doubt pleased to see that the share price has had a great month, posting a 33% gain, recovering from prior weakness. But that will do little to salve the savage burn caused by the 59% share price decline, over the last year.
All else being equal, a sharp share price increase should make a stock less attractive to potential investors. 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. So some would prefer to hold off buying when there is a lot of optimism towards a stock. One way to gauge market expectations of a stock 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.
Does MGP Ingredients Have A Relatively High Or Low P/E For Its Industry?
We can tell from its P/E ratio of 15.72 that sentiment around MGP Ingredients isn't particularly high. If you look at the image below, you can see MGP Ingredients has a lower P/E than the average (28.3) in the beverage industry classification.
This suggests that market participants think MGP Ingredients will underperform other companies in its industry. Since the market seems unimpressed with MGP Ingredients, 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
Generally speaking the rate of earnings growth has a profound impact on a company's P/E multiple. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. And in that case, the P/E ratio itself will drop rather quickly. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
MGP Ingredients saw earnings per share improve by 4.5% last year. And its annual EPS growth rate over 5 years is 11%.
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. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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 MGP Ingredients's Debt Impact Its P/E Ratio?
Net debt totals just 6.2% of MGP Ingredients's market cap. The market might award it a higher P/E ratio if it had net cash, but its unlikely this low level of net borrowing is having a big impact on the P/E multiple.
The Verdict On MGP Ingredients's P/E Ratio
MGP Ingredients trades on a P/E ratio of 15.7, which is above its market average of 13.5. With debt at prudent levels and improving earnings, it's fair to say the market expects steady progress in the future. What we know for sure is that investors have become more excited about MGP Ingredients recently, since they have pushed its P/E ratio from 11.8 to 15.7 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.
When the market is wrong about a stock, it gives savvy investors an opportunity. People often underestimate remarkable growth -- so investors can make money when fast growth is not fully appreciated. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
But note: MGP Ingredients may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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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