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Today, we'll introduce the concept of the P/E ratio for those who are learning about investing. To keep it practical, we'll show how Currency Exchange International, Corp.'s (TSE:CXI) P/E ratio could help you assess the value on offer. What is Currency Exchange International's P/E ratio? Well, based on the last twelve months it is 29.66. That corresponds to an earnings yield of approximately 3.4%.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price (in reporting currency) ÷ Earnings per Share (EPS)
Or for Currency Exchange International:
P/E of 29.66 = $17.39 (Note: this is the share price in the reporting currency, namely, USD ) ÷ $0.59 (Based on the trailing twelve months to April 2019.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each CA$1 the company has earned over the last year. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
How Growth Rates Impact P/E Ratios
If earnings fall then in the future the 'E' will be lower. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. Then, a higher P/E might scare off shareholders, pushing the share price down.
Currency Exchange International shrunk earnings per share by 11% over the last year. And over the longer term (3 years) earnings per share have decreased 6.9% annually. This growth rate might warrant a low P/E ratio.
How Does Currency Exchange International'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, Currency Exchange International has a much higher P/E than the average company (9) in the consumer finance industry.
Its relatively high P/E ratio indicates that Currency Exchange International shareholders think it will perform better than other companies in its industry classification. Clearly the market expects growth, but it isn't guaranteed. So investors should delve deeper. I like to check if company insiders have been buying or selling.
Remember: P/E Ratios Don't Consider The Balance Sheet
The 'Price' in P/E reflects the market capitalization of the company. Thus, the metric does not reflect cash or debt held by the company. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).
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.
How Does Currency Exchange International's Debt Impact Its P/E Ratio?
With net cash of US$58m, Currency Exchange International has a very strong balance sheet, which may be important for its business. Having said that, at 52% of its market capitalization the cash hoard would contribute towards a higher P/E ratio.
The Bottom Line On Currency Exchange International's P/E Ratio
Currency Exchange International trades on a P/E ratio of 29.7, which is above the CA market average of 15.1. The recent drop in earnings per share might keep value investors away, but the net cash position means the company has time to improve: and the high P/E suggests the market thinks it will.
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.
But note: Currency Exchange International may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio 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 email@example.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.