Unfortunately for some shareholders, the First Northwest Bancorp (NASDAQ:FNWB) share price has dived 44% in the last thirty days. That drop has capped off a tough year for shareholders, with the share price down 40% in that time.
Assuming nothing else has changed, a lower share price makes a stock more 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 long term investors have an opportunity when expectations of a company are too low. 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.
Does First Northwest Bancorp Have A Relatively High Or Low P/E For Its Industry?
We can tell from its P/E ratio of 10.16 that there is some investor optimism about First Northwest Bancorp. You can see in the image below that the average P/E (8.3) for companies in the banks industry is lower than First Northwest Bancorp's P/E.
Its relatively high P/E ratio indicates that First Northwest Bancorp shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn't guaranteed. So further research is always essential. I often monitor director buying and selling.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. When earnings grow, the 'E' increases, over time. That means unless the share price increases, the P/E will reduce in a few years. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.
First Northwest Bancorp increased earnings per share by a whopping 33% last year. And earnings per share have improved by 33% annually, 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
Don't forget that the P/E ratio considers market capitalization. So it won't reflect the advantage of cash, or disadvantage of debt. 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.
First Northwest Bancorp's Balance Sheet
First Northwest Bancorp has net debt worth 70% of its market capitalization. This is a reasonably significant level of debt -- all else being equal you'd expect a much lower P/E than if it had net cash.
The Verdict On First Northwest Bancorp's P/E Ratio
First Northwest Bancorp's P/E is 10.2 which is below average (11.5) in the US market. The company may have significant debt, but EPS growth was good last year. The low P/E ratio suggests current market expectations are muted, implying these levels of growth will not continue. What can be absolutely certain is that the market has become significantly less optimistic about First Northwest Bancorp over the last month, with the P/E ratio falling from 18.1 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 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. Although we don't have analyst forecasts you could get a better understanding of its growth by checking out this more detailed historical graph of earnings, revenue and cash flow.
You might be able to find a better buy than First Northwest 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 email@example.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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