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A Sliding Share Price Has Us Looking At Union Pacific Corporation's (NYSE:UNP) P/E Ratio

Simply Wall St

Unfortunately for some shareholders, the Union Pacific (NYSE:UNP) share price has dived 32% in the last thirty days. The recent drop has obliterated the annual return, with the share price now down 22% over that longer period.

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. 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.

See our latest analysis for Union Pacific

How Does Union Pacific's P/E Ratio Compare To Its Peers?

Union Pacific's P/E of 14.87 indicates relatively low sentiment towards the stock. If you look at the image below, you can see Union Pacific has a lower P/E than the average (16.2) in the transportation industry classification.

NYSE:UNP Price Estimation Relative to Market, March 17th 2020

Union Pacific's P/E tells us that market participants think it will not fare as well as its peers in the same industry. Since the market seems unimpressed with Union Pacific, it's quite possible it could surprise on the upside. You should delve deeper. I like to check if company insiders have been buying or 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. 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. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

Union Pacific saw earnings per share improve by 5.9% last year. And earnings per share have improved by 7.8% annually, over the last five years.

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

Don't forget that the P/E ratio considers market capitalization. That means it doesn't take debt or cash into account. In theory, a company can lower its future P/E ratio by using cash or debt to invest in 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.

So What Does Union Pacific's Balance Sheet Tell Us?

Union Pacific has net debt equal to 27% of its market cap. While that's enough to warrant consideration, it doesn't really concern us.

The Verdict On Union Pacific's P/E Ratio

Union Pacific's P/E is 14.9 which is above average (12.7) in its market. With modest debt relative to its size, and modest earnings growth, the market is likely expecting sustained long-term growth, if not a near-term improvement. Given Union Pacific's P/E ratio has declined from 21.9 to 14.9 in the last month, we know for sure that the market is significantly less confident about the business today, than it was back then. 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.

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: Union Pacific 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 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.