Unfortunately for some shareholders, the Momentum Group (STO:MMGR B) share price has dived 31% in the last thirty days. Even longer term holders have taken a real hit with the stock declining 17% in the last year.
Assuming nothing else has changed, a lower share price makes a stock more attractive to potential buyers. 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). So, on certain occasions, long term focussed investors try to take advantage of pessimistic expectations to buy shares at a better price. One way to gauge market expectations of a stock 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.
How Does Momentum Group's P/E Ratio Compare To Its Peers?
We can tell from its P/E ratio of 10.16 that sentiment around Momentum Group isn't particularly high. We can see in the image below that the average P/E (11.7) for companies in the trade distributors industry is higher than Momentum Group's P/E.
Its relatively low P/E ratio indicates that Momentum Group shareholders think it will struggle to do as well as other companies in its industry classification. 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. If earnings are growing quickly, then the 'E' in the equation will increase faster than it would otherwise. That means even if the current P/E is high, it will reduce over time if the share price stays flat. And as that P/E ratio drops, the company will look cheap, unless its share price increases.
Momentum Group increased earnings per share by 4.0% last year. And earnings per share have improved by 10.0% annually, over the last five years.
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. Thus, the metric does not reflect cash or debt held by the company. 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 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.
How Does Momentum Group's Debt Impact Its P/E Ratio?
Momentum Group has net debt worth just 8.8% of its market capitalization. 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 Momentum Group's P/E Ratio
Momentum Group has a P/E of 10.2. That's below the average in the SE market, which is 15.1. The company hasn't stretched its balance sheet, and earnings are improving. If you believe growth will continue - or even increase - then the low P/E may signify opportunity. What can be absolutely certain is that the market has become less optimistic about Momentum Group over the last month, with the P/E ratio falling from 14.6 back then to 10.2 today. For those who don't like to trade against momentum, that could be a warning sign, but a contrarian investor might want to take a closer look.
Investors should be looking to buy stocks that the market is wrong about. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
But note: Momentum Group 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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