Here’s How P/E Ratios Can Help Us Understand Svenska Cellulosa Aktiebolaget SCA (publ) (STO:SCA B)

This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We’ll look at Svenska Cellulosa Aktiebolaget SCA (publ)’s (STO:SCA B) P/E ratio and reflect on what it tells us about the company’s share price. Svenska Cellulosa Aktiebolaget has a price to earnings ratio of 4.41, based on the last twelve months. That corresponds to an earnings yield of approximately 22.7%.

View our latest analysis for Svenska Cellulosa Aktiebolaget

How Do I Calculate Svenska Cellulosa Aktiebolaget’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 Svenska Cellulosa Aktiebolaget:

P/E of 4.41 = SEK97.36 ÷ SEK22.10 (Based on the trailing twelve months to December 2019.)

Is A High Price-to-Earnings Ratio Good?

The higher the P/E ratio, the higher the price tag of a business, relative to its trailing earnings. That isn’t a good or a bad thing on its own, but a high P/E means that buyers have a higher opinion of the business’s prospects, relative to stocks with a lower P/E.

Does Svenska Cellulosa Aktiebolaget Have A Relatively High Or Low P/E For Its Industry?

We can get an indication of market expectations by looking at the P/E ratio. The image below shows that Svenska Cellulosa Aktiebolaget has a lower P/E than the average (10.3) P/E for companies in the forestry industry.

OM:SCA B Price Estimation Relative to Market, February 5th 2020
OM:SCA B Price Estimation Relative to Market, February 5th 2020

Its relatively low P/E ratio indicates that Svenska Cellulosa Aktiebolaget shareholders think it will struggle to do as well as other companies in its industry classification. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. 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

Earnings growth rates have a big influence on P/E ratios. If earnings are growing quickly, then the ‘E’ in the equation will increase faster than it would otherwise. And in that case, the P/E ratio itself will drop rather quickly. A lower P/E should indicate the stock is cheap relative to others — and that may attract buyers.

Svenska Cellulosa Aktiebolaget’s 324% EPS improvement over the last year was like bamboo growth after rain; rapid and impressive. The sweetener is that the annual five year growth rate of 19% is also impressive. With that kind of growth rate we would generally expect a high P/E ratio.

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

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 expenditure might be good or bad, in the long term, but the point here is that the balance sheet is not reflected by this ratio.

Is Debt Impacting Svenska Cellulosa Aktiebolaget’s P/E?

Svenska Cellulosa Aktiebolaget’s net debt is 12% of its market cap. It would probably deserve a higher P/E ratio if it was net cash, since it would have more options for growth.

The Verdict On Svenska Cellulosa Aktiebolaget’s P/E Ratio

Svenska Cellulosa Aktiebolaget’s P/E is 4.4 which is below average (19.4) in the SE market. The company does have a little debt, and EPS growth was good last year. If it continues to grow, then the current low P/E may prove to be unjustified.

When the market is wrong about a stock, it gives savvy investors an opportunity. As value investor Benjamin Graham famously said, ‘In the short run, the market is a voting machine but in the long run, it is a weighing machine. 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 Svenska Cellulosa Aktiebolaget. 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.

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