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Should You Be Tempted To Sell Universal Display Corporation (NASDAQ:OLED) Because Of Its P/E Ratio?

This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We’ll look at Universal Display Corporation’s (NASDAQ:OLED) P/E ratio and reflect on what it tells us about the company’s share price. Universal Display has a P/E ratio of 63.21, based on the last twelve months. That corresponds to an earnings yield of approximately 1.6%.

View our latest analysis for Universal Display

How Do I Calculate A Price To Earnings Ratio?

The formula for price to earnings is:

Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)

Or for Universal Display:

P/E of 63.21 = $96.45 ÷ $1.53 (Based on the trailing twelve months to September 2018.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio implies that investors pay a higher price for the earning power of the business. That isn’t a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business’s prospects, relative to stocks with a lower P/E.

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. When earnings grow, the ‘E’ increases, over time. That means unless the share price increases, the P/E will reduce in a few years. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.

Universal Display shrunk earnings per share by 26% over the last year. But EPS is up 10% over the last 5 years.

How Does Universal Display’s P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. The image below shows that Universal Display has a significantly higher P/E than the average (17.4) P/E for companies in the semiconductor industry.

NasdaqGS:OLED PE PEG Gauge December 14th 18

That means that the market expects Universal Display will outperform other companies in its industry. Clearly the market expects growth, but it isn’t guaranteed. So further research is always essential. I often monitor director buying and selling.

Remember: P/E Ratios Don’t Consider The Balance Sheet

Don’t forget that the P/E ratio considers market capitalization. That means it doesn’t take debt or cash into account. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

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.

Is Debt Impacting Universal Display’s P/E?

The extra options and safety that comes with Universal Display’s US$494m net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.

The Verdict On Universal Display’s P/E Ratio

Universal Display trades on a P/E ratio of 63.2, which is multiples above the US market average of 17. The recent drop in earnings per share might keep value investors away, but the healthy balance sheet means the company retains potential for future growth. If fails to eventuate, the current high P/E could prove to be temporary, as the share price falls.

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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.

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.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.