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This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). To keep it practical, we’ll show how Kearny Financial Corp.’s (NASDAQ:KRNY) P/E ratio could help you assess the value on offer. Kearny Financial has a P/E ratio of 35.09, based on the last twelve months. That is equivalent to an earnings yield of about 2.8%.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Kearny Financial:
P/E of 35.09 = $13.61 ÷ $0.39 (Based on the year to December 2018.)
Is A High P/E Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each $1 of company 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
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 even if the current P/E is high, it will reduce over time if the share price stays flat. So while a stock may look expensive based on past earnings, it could be cheap based on future earnings.
It’s nice to see that Kearny Financial grew EPS by a stonking 110% in the last year. And earnings per share have improved by 27% annually, over the last five years. I’d therefore be a little surprised if its P/E ratio was not relatively high.
How Does Kearny Financial’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. You can see in the image below that the average P/E (15.3) for companies in the mortgage industry is lower than Kearny Financial’s P/E.
Kearny Financial’s P/E tells us that market participants think the company will perform better than its industry peers, going forward. The market is optimistic about the future, but that doesn’t guarantee future growth. So investors should delve deeper. I like to check if company insiders have been buying or selling.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
The ‘Price’ in P/E reflects the market capitalization of the company. In other words, it does not consider any debt or cash that the company may have on the balance sheet. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
Spending on growth might be good or bad a few years later, but the point is that the P/E ratio does not account for the option (or lack thereof).
Is Debt Impacting Kearny Financial’s P/E?
Kearny Financial has net debt worth a very significant 102% of its market capitalization. If you want to compare its P/E ratio to other companies, you must keep in mind that these debt levels would usually warrant a relatively low P/E.
The Bottom Line On Kearny Financial’s P/E Ratio
Kearny Financial’s P/E is 35.1 which is above average (17.5) in the US market. It’s good to see the recent earnings growth, although we note the company uses debt already. But if growth falters, the relatively high P/E ratio may prove to be unjustified.
Investors should be looking to buy stocks that the market is wrong about. 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.
Of course you might be able to find a better stock than Kearny Financial. So you may wish to see this free collection of other companies that have grown earnings strongly.
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 firstname.lastname@example.org. 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.