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A Rising Share Price Has Us Looking Closely At Bandhan Bank Limited's (NSE:BANDHANBNK) P/E Ratio

Simply Wall St

Bandhan Bank (NSE:BANDHANBNK) shares have had a really impressive month, gaining 37%, after some slippage. And the full year gain of 34% isn't too shabby, either!

All else being equal, a sharp share price increase should make a stock less attractive to potential investors. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). 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). A high P/E implies that investors have high expectations of what a company can achieve compared to a company with a low P/E ratio.

See our latest analysis for Bandhan Bank

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

Bandhan Bank's P/E of 34.27 indicates some degree of optimism towards the stock. As you can see below, Bandhan Bank has a higher P/E than the average company (19.4) in the banks industry.

NSEI:BANDHANBNK Price Estimation Relative to Market, October 16th 2019

That means that the market expects Bandhan Bank will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.

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. That's because companies that grow earnings per share quickly will rapidly increase the 'E' in the equation. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.

It's nice to see that Bandhan Bank grew EPS by a stonking 36% in the last year. And it has bolstered its earnings per share by 231% per year over the last five years. I'd therefore be a little surprised if its P/E ratio was not relatively high.

Don't Forget: The P/E Does Not Account For Debt or Bank Deposits

It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. That means it doesn't take debt or cash into account. 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.

Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.

So What Does Bandhan Bank's Balance Sheet Tell Us?

Since Bandhan Bank holds net cash of ₹13b, it can spend on growth, justifying a higher P/E ratio than otherwise.

The Bottom Line On Bandhan Bank's P/E Ratio

Bandhan Bank has a P/E of 34.3. That's higher than the average in its market, which is 13.1. The excess cash it carries is the gravy on top its fast EPS growth. To us, this is the sort of company that we would expect to carry an above average price tag (relative to earnings). What we know for sure is that investors have become much more excited about Bandhan Bank recently, since they have pushed its P/E ratio from 25.0 to 34.3 over the last month. If you like to buy stocks that have recently impressed the market, then this one might be a candidate; but if you prefer to invest when there is 'blood in the streets', then you may feel the opportunity has passed.

Investors have an opportunity when market expectations about a stock are wrong. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.

Of course you might be able to find a better stock than Bandhan Bank. So you may wish to see this free collection of other companies that have grown earnings strongly.

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.