Why German American Bancorp, Inc.'s (NASDAQ:GABC) High P/E Ratio Isn't Necessarily A Bad Thing
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The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We'll show how you can use German American Bancorp, Inc.'s (NASDAQ:GABC) P/E ratio to inform your assessment of the investment opportunity. German American Bancorp has a P/E ratio of 14.63, based on the last twelve months. That means that at current prices, buyers pay $14.63 for every $1 in trailing yearly profits.
View our latest analysis for German American Bancorp
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 German American Bancorp:
P/E of 14.63 = $30.48 ÷ $2.08 (Based on the trailing twelve months to March 2019.)
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
P/E ratios primarily reflect market expectations around earnings growth rates. 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. A lower P/E should indicate the stock is cheap relative to others -- and that may attract buyers.
Most would be impressed by German American Bancorp earnings growth of 11% in the last year. And earnings per share have improved by 9.3% annually, over the last five years. With that performance, you might expect an above average P/E ratio.
How Does German American Bancorp's P/E Ratio Compare To Its Peers?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. You can see in the image below that the average P/E (12.9) for companies in the banks industry is lower than German American Bancorp's P/E.
That means that the market expects German American Bancorp will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
Remember: P/E Ratios Don't Consider The Balance Sheet
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. 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.
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.
German American Bancorp's Balance Sheet
German American Bancorp has net debt equal to 33% of its market cap. While that's enough to warrant consideration, it doesn't really concern us.
The Verdict On German American Bancorp's P/E Ratio
German American Bancorp trades on a P/E ratio of 14.6, which is below the US market average of 18.2. The EPS growth last year was strong, and debt levels are quite reasonable. The low P/E ratio suggests current market expectations are muted, implying these levels of growth will not continue. Given analysts are expecting further growth, one might have expected a higher P/E ratio. That may be worth further research.
Investors have an opportunity when market expectations about a stock are wrong. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. 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.
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.
