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Why Filta Group Holdings plc's (LON:FLTA) High P/E Ratio Isn't Necessarily A Bad Thing

Simply Wall St

This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll look at Filta Group Holdings plc's (LON:FLTA) P/E ratio and reflect on what it tells us about the company's share price. What is Filta Group Holdings's P/E ratio? Well, based on the last twelve months it is 38.95. That corresponds to an earnings yield of approximately 2.6%.

See our latest analysis for Filta Group Holdings

How Do I Calculate A Price To Earnings Ratio?

The formula for P/E is:

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

Or for Filta Group Holdings:

P/E of 38.95 = £1.89 ÷ £0.049 (Based on the trailing twelve months to December 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 Does Filta Group Holdings's P/E Ratio Compare To Its Peers?

We can get an indication of market expectations by looking at the P/E ratio. The image below shows that Filta Group Holdings has a higher P/E than the average (18.8) P/E for companies in the commercial services industry.

AIM:FLTA Price Estimation Relative to Market, July 22nd 2019

That means that the market expects Filta Group Holdings 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.

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. Earnings growth means that in the future the 'E' will be higher. That means unless the share price increases, the P/E will reduce in a few years. Then, a lower P/E should attract more buyers, pushing the share price up.

Filta Group Holdings's 67% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. And earnings per share have improved by 52% annually, over the last three years. So we'd absolutely expect it to have a relatively high P/E ratio. Unfortunately, earnings per share are down 19% a year, over 5 years.

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

One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. 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.

While growth expenditure doesn't always pay off, the point is that it is a good option to have; but one that the P/E ratio ignores.

Filta Group Holdings's Balance Sheet

Since Filta Group Holdings holds net cash of UK£2.0m, it can spend on growth, justifying a higher P/E ratio than otherwise.

The Bottom Line On Filta Group Holdings's P/E Ratio

Filta Group Holdings has a P/E of 38.9. That's higher than the average in its market, which is 16.3. Its net cash position is the cherry on top of its superb EPS growth. To us, this is the sort of company that we would expect to carry an above average price tag (relative to earnings).

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 visual report on analyst forecasts could hold the key to an excellent investment decision.

You might be able to find a better buy than Filta Group Holdings. 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).

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.

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. Thank you for reading.