Despite Its High P/E Ratio, Is Helen of Troy Limited (NASDAQ:HELE) Still Undervalued?

Today, we’ll introduce the concept of the P/E ratio for those who are learning about investing. We’ll show how you can use Helen of Troy Limited’s (NASDAQ:HELE) P/E ratio to inform your assessment of the investment opportunity. Looking at earnings over the last twelve months, Helen of Troy has a P/E ratio of 23.91. In other words, at today’s prices, investors are paying $23.91 for every $1 in prior year profit.

Check out our latest analysis for Helen of Troy

How Do You Calculate A P/E Ratio?

The formula for price to earnings is:

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

Or for Helen of Troy:

P/E of 23.91 = USD183.63 ÷ USD7.68 (Based on the trailing twelve months to November 2019.)

Is A High P/E Ratio Good?

A higher P/E ratio implies that investors pay a higher price for the earning power of the business. 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 Does Helen of Troy’s P/E Ratio Compare To Its Peers?

We can get an indication of market expectations by looking at the P/E ratio. You can see in the image below that the average P/E (13.9) for companies in the consumer durables industry is lower than Helen of Troy’s P/E.

NasdaqGS:HELE Price Estimation Relative to Market, January 22nd 2020
NasdaqGS:HELE Price Estimation Relative to Market, January 22nd 2020

That means that the market expects Helen of Troy will outperform other companies in its industry. 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.

How Growth Rates Impact P/E Ratios

Generally speaking the rate of earnings growth has a profound impact on a company’s P/E multiple. When earnings grow, the ‘E’ increases, over time. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

Helen of Troy increased earnings per share by a whopping 40% last year. And its annual EPS growth rate over 5 years is 17%. I’d therefore be a little surprised if its P/E ratio was not relatively high.

Remember: P/E Ratios Don’t Consider The Balance Sheet

One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. 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.

Is Debt Impacting Helen of Troy’s P/E?

Net debt totals just 5.0% of Helen of Troy’s market cap. The market might award it a higher P/E ratio if it had net cash, but its unlikely this low level of net borrowing is having a big impact on the P/E multiple.

The Bottom Line On Helen of Troy’s P/E Ratio

Helen of Troy’s P/E is 23.9 which is above average (18.9) in its market. Its debt levels do not imperil its balance sheet and its EPS growth is very healthy indeed. So on this analysis a high P/E ratio seems reasonable.

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 visual report on analyst forecasts could hold the key to an excellent investment decision.

Of course you might be able to find a better stock than Helen of Troy. So you may wish to see this free collection of other companies that have grown earnings strongly.

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.

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. Thank you for reading.