Why Cabot Microelectronics Corporation’s (NASDAQ:CCMP) High P/E Ratio Isn’t Necessarily A Bad Thing
The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). To keep it practical, we’ll show how Cabot Microelectronics Corporation’s (NASDAQ:CCMP) P/E ratio could help you assess the value on offer. Cabot Microelectronics has a P/E ratio of 24.54, based on the last twelve months. In other words, at today’s prices, investors are paying $24.54 for every $1 in prior year profit.
Check out our latest analysis for Cabot Microelectronics
How Do You Calculate A P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Cabot Microelectronics:
P/E of 24.54 = $105.71 ÷ $4.31 (Based on the trailing twelve months to September 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each $1 of company earnings. 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
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.
Most would be impressed by Cabot Microelectronics earnings growth of 24% in the last year. And it has bolstered its earnings per share by 11% per year over the last five years. With that performance, you might expect an above average P/E ratio.
How Does Cabot Microelectronics’s P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. As you can see below, Cabot Microelectronics has a higher P/E than the average company (19) in the semiconductor industry.
That means that the market expects Cabot Microelectronics will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. So further research is always essential. I often monitor director buying and selling.
Don’t Forget: The P/E Does Not Account For Debt or Bank Deposits
It’s important to note that the P/E ratio considers the market capitalization, not the enterprise value. Thus, the metric does not reflect cash or debt held by the company. 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.
How Does Cabot Microelectronics’s Debt Impact Its P/E Ratio?
Cabot Microelectronics has net cash of US$353m. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.
The Bottom Line On Cabot Microelectronics’s P/E Ratio
Cabot Microelectronics has a P/E of 24.5. That’s higher than the average in the US market, which is 18. Its strong balance sheet gives the company plenty of resources for extra growth, and it has already proven it can grow. Therefore it seems reasonable that the market would have relatively high expectations of the company
When the market is wrong about a stock, it gives savvy investors an opportunity. If the reality for a company is better than it expects, you can make money by buying and holding for the long term. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
You might be able to find a better buy than Cabot Microelectronics. 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).
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.
