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Why Herc Holdings Inc.'s (NYSE:HRI) High P/E Ratio Isn't Necessarily A Bad Thing

Simply Wall St

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This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll apply a basic P/E ratio analysis to Herc Holdings Inc.'s (NYSE:HRI), to help you decide if the stock is worth further research. Looking at earnings over the last twelve months, Herc Holdings has a P/E ratio of 17.41. In other words, at today's prices, investors are paying $17.41 for every $1 in prior year profit.

View our latest analysis for Herc Holdings

How Do You Calculate A P/E Ratio?

The formula for P/E is:

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

Or for Herc Holdings:

P/E of 17.41 = $44.37 ÷ $2.55 (Based on the year to March 2019.)

Is A High Price-to-Earnings Ratio Good?

The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That isn't necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.

How Growth Rates Impact P/E Ratios

If earnings fall then in the future the 'E' will be lower. That means unless the share price falls, the P/E will increase in a few years. Then, a higher P/E might scare off shareholders, pushing the share price down.

Herc Holdings saw earnings per share decrease by 62% last year. And EPS is down 6.1% a year, over the last 5 years. This might lead to muted expectations.

How Does Herc Holdings's P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. You can see in the image below that the average P/E (16.8) for companies in the trade distributors industry is roughly the same as Herc Holdings's P/E.

NYSE:HRI Price Estimation Relative to Market, July 4th 2019

That indicates that the market expects Herc Holdings will perform roughly in line with other companies in its industry. So if Herc Holdings actually outperforms its peers going forward, that should be a positive for the share price. Further research into factors such as insider buying and selling, could help you form your own view on whether that is likely.

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. So it won't reflect the advantage of cash, or disadvantage of debt. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.

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.

Herc Holdings's Balance Sheet

Net debt totals a substantial 168% of Herc Holdings's market cap. This level of debt justifies a relatively low P/E, so remain cognizant of the debt, if you're comparing it to other stocks.

The Bottom Line On Herc Holdings's P/E Ratio

Herc Holdings's P/E is 17.4 which is about average (18.2) in the US market. With relatively high debt, and no earnings per share growth over twelve months, the P/E suggests that many have an expectation that company will find some growth.

Investors have an opportunity when market expectations about a stock are wrong. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. 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 Herc 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.