Unfortunately for some shareholders, the Tarkett (EPA:TKTT) share price has dived 48% in the last thirty days. Indeed the recent decline has arguably caused some bitterness for shareholders who have held through the 55% drop over twelve months.
All else being equal, a share price drop should make a stock more 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 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 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.
How Does Tarkett's P/E Ratio Compare To Its Peers?
Tarkett has a P/E ratio of 13.51. As you can see below Tarkett has a P/E ratio that is fairly close for the average for the building industry, which is 12.6.
Its P/E ratio suggests that Tarkett shareholders think that in the future it will perform about the same as other companies in its industry classification. So if Tarkett actually outperforms its peers going forward, that should be a positive for the share price. I would further inform my view by checking insider buying and selling., among other things.
How Growth Rates Impact P/E Ratios
If earnings fall then in the future the 'E' will be lower. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. Then, a higher P/E might scare off shareholders, pushing the share price down.
Tarkett's earnings per share fell by 21% in the last twelve months. And over the longer term (5 years) earnings per share have decreased 8.6% annually. This could justify a pessimistic P/E.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
It's important to note that the P/E ratio considers the market capitalization, not the enterprise value. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
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.
Is Debt Impacting Tarkett's P/E?
Tarkett's net debt is considerable, at 100% of its market cap. This is a relatively high level of debt, so the stock probably deserves a relatively low P/E ratio. Keep that in mind when comparing it to other companies.
The Bottom Line On Tarkett's P/E Ratio
Tarkett's P/E is 13.5 which is about average (13.2) in the FR market. With meaningful debt, and no earnings per share growth last year, even an average P/E indicates that the market a significant improvement from the business. What can be absolutely certain is that the market has become significantly less optimistic about Tarkett over the last month, with the P/E ratio falling from 26.0 back then to 13.5 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 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. So this free visual report on analyst forecasts could hold the key to an excellent investment decision.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
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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