Should We Worry About Western Digital Corporation’s (NASDAQ:WDC) P/E Ratio?
This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll look at Western Digital Corporation’s (NASDAQ:WDC) P/E ratio and reflect on what it tells us about the company’s share price. Based on the last twelve months, Western Digital’s P/E ratio is 22.36. That means that at current prices, buyers pay $22.36 for every $1 in trailing yearly profits.
See our latest analysis for Western Digital
How Do You Calculate Western Digital’s P/E Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Western Digital:
P/E of 22.36 = $38.11 ÷ $1.7 (Based on the year to September 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each $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
When earnings fall, the ‘E’ decreases, over time. 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.
Western Digital’s earnings per share fell by 65% in the last twelve months. And it has shrunk its earnings per share by 31% per year over the last five years. This could justify a pessimistic P/E.
How Does Western Digital’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, Western Digital has a higher P/E than the average company (14.7) in the tech industry.
Western Digital’s P/E tells us that market participants think the company will perform better than its industry peers, going forward. Clearly the market expects growth, but it isn’t guaranteed. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
Don’t forget that the P/E ratio considers market capitalization. Thus, the metric does not reflect cash or debt held by the company. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
How Does Western Digital’s Debt Impact Its P/E Ratio?
Western Digital’s net debt is 60% of its market cap. This is a reasonably significant level of debt — all else being equal you’d expect a much lower P/E than if it had net cash.
The Verdict On Western Digital’s P/E Ratio
Western Digital’s P/E is 22.4 which is above average (16.7) in the US market. With meaningful debt and a lack of recent earnings growth, the market has high expectations that the business will earn more in the future.
Investors should be looking to buy stocks that the market is wrong about. People often underestimate remarkable growth — so investors can make money when fast growth is not fully appreciated. So this free visual report on analyst forecasts could hold they key to an excellent investment decision.
You might be able to find a better buy than Western Digital. 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).
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
