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A Sliding Share Price Has Us Looking At MLS Innovation Inc.'s (ATH:MLS) P/E Ratio

Simply Wall St

Unfortunately for some shareholders, the MLS Innovation (ATH:MLS) share price has dived 31% in the last thirty days. And that drop will have no doubt have some shareholders concerned that the 75% share price decline, over the last year, has turned them into bagholders. What is a bagholder? It is a shareholder who has suffered a bad loss, but continues to hold indefinitely, without questioning their reasons for holding, even as the losses grow greater.

All else being equal, a share price drop should make a stock more 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, on certain occasions, long term focussed investors try to take advantage of pessimistic expectations to buy shares at a better price. 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 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.

View our latest analysis for MLS Innovation

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

MLS Innovation's P/E of 15.49 indicates relatively low sentiment towards the stock. We can see in the image below that the average P/E (22.9) for companies in the software industry is higher than MLS Innovation's P/E.

ATSE:MLS Price Estimation Relative to Market, December 4th 2019

Its relatively low P/E ratio indicates that MLS Innovation shareholders think it will struggle to do as well as other companies in its industry classification. Many investors like to buy stocks when the market is pessimistic about their prospects. 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

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.

MLS Innovation saw earnings per share decrease by 41% last year. And over the longer term (5 years) earnings per share have decreased 7.3% annually. This could justify a pessimistic P/E.

A Limitation: P/E Ratios Ignore Debt and Cash In The Bank

Don't forget that the P/E ratio considers market capitalization. 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).

Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).

Is Debt Impacting MLS Innovation's P/E?

Net debt totals 63% of MLS Innovation's 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 MLS Innovation's P/E Ratio

MLS Innovation trades on a P/E ratio of 15.5, which is fairly close to the GR market average of 16.2. With relatively high debt, and no earnings per share growth over twelve months, the P/E suggests that many have an expectation that company will find some growth. What can be absolutely certain is that the market has become significantly less optimistic about MLS Innovation over the last month, with the P/E ratio falling from 22.6 back then to 15.5 today. For those who prefer to invest with the flow of momentum, that might be a bad sign, but for a contrarian, it may signal opportunity.

Investors should be looking to buy stocks that the market is wrong about. 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 report on the analyst consensus forecasts could help you make a master move on this stock.

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

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.

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. Thank you for reading.