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 Mycronic AB (publ)’s (STO:MYCR) P/E ratio could help you assess the value on offer. Mycronic has a price to earnings ratio of 19.60, based on the last twelve months. That corresponds to an earnings yield of approximately 5.1%.
How Do I Calculate Mycronic’s Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Mycronic:
P/E of 19.60 = SEK166.10 ÷ SEK8.47 (Based on the year to September 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 is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
How Does Mycronic’s P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. We can see in the image below that the average P/E (23.2) for companies in the electronic industry is higher than Mycronic’s P/E.
This suggests that market participants think Mycronic will underperform other companies in its industry. Many investors like to buy stocks when the market is pessimistic about their prospects. It is arguably worth checking if insiders are buying shares, because that might imply they believe the stock is undervalued.
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. That’s because companies that grow earnings per share quickly will rapidly increase the ‘E’ in the equation. That means unless the share price increases, the P/E will reduce in a few years. Then, a lower P/E should attract more buyers, pushing the share price up.
Mycronic’s earnings per share fell by 6.8% in the last twelve months. But over the longer term (5 years) earnings per share have increased by 65%.
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. Thus, the metric does not reflect cash or debt held by the company. 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 Mycronic’s P/E?
Since Mycronic holds net cash of kr616m, it can spend on growth, justifying a higher P/E ratio than otherwise.
The Bottom Line On Mycronic’s P/E Ratio
Mycronic has a P/E of 19.6. That’s around the same as the average in the SE market, which is 18.7. Although the recent drop in earnings per share would keep the market cautious, the relatively strong balance sheet will allow the company to weather a storm; so it isn’t very surprising to see that it has a P/E ratio close to the market average.
Investors have an opportunity when market expectations about a stock are wrong. 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 find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
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.
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.