How Does Baby Bunting Group’s (ASX:BBN) P/E Compare To Its Industry, After Its Big Share Price Gain?

Baby Bunting Group (ASX:BBN) shares have continued recent momentum with a 32% gain in the last month alone. And the full year gain of 20% isn’t too shabby, either!

Assuming no other changes, a sharply higher share price makes a stock less attractive to potential buyers. In the long term, share prices tend to follow earnings per share, but in the short term prices bounce around in response to short term factors (which are not always obvious). The implication here is that deep value investors might steer clear when expectations of a company are too high. Perhaps the simplest way to get a read on investors’ expectations of a business is to look at its Price to Earnings Ratio (PE Ratio). A high P/E ratio means that investors have a high expectation about future growth, while a low P/E ratio means they have low expectations about future growth.

Check out our latest analysis for Baby Bunting Group

Does Baby Bunting Group Have A Relatively High Or Low P/E For Its Industry?

We can tell from its P/E ratio of 29.89 that there is some investor optimism about Baby Bunting Group. The image below shows that Baby Bunting Group has a higher P/E than the average (15.1) P/E for companies in the specialty retail industry.

ASX:BBN Price Estimation Relative to Market, September 5th 2019
ASX:BBN Price Estimation Relative to Market, September 5th 2019

That means that the market expects Baby Bunting Group will outperform other companies in its industry.

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. That means unless the share price increases, the P/E will reduce in a few years. 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 Baby Bunting Group grew EPS by a stonking 43% in the last year. And it has bolstered its earnings per share by 18% per year over the last five years. With that performance, I would expect it to have an above average P/E ratio.

A Limitation: P/E Ratios Ignore Debt and Cash In The Bank

It’s important to note that the P/E ratio considers the market capitalization, not the enterprise value. That means it doesn’t take debt or cash into account. The exact same company would hypothetically deserve a higher P/E ratio if it had a strong balance sheet, than if it had a weak one with lots of debt, because a cashed up company can spend on growth.

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 Baby Bunting Group’s P/E?

The extra options and safety that comes with Baby Bunting Group’s AU$2.7m net cash position means that it deserves a higher P/E than it would if it had a lot of net debt.

The Bottom Line On Baby Bunting Group’s P/E Ratio

Baby Bunting Group’s P/E is 29.9 which is above average (17.3) in its market. Its net cash position is the cherry on top of its superb EPS growth. To us, this is the sort of company that we would expect to carry an above average price tag (relative to earnings). What we know for sure is that investors have become much more excited about Baby Bunting Group recently, since they have pushed its P/E ratio from 22.6 to 29.9 over the last month. For those who prefer to invest with the flow of momentum, that might mean it’s time to put the stock on a watchlist, or research it. But the contrarian may see it as a missed opportunity.

When the market is wrong about a stock, it gives savvy investors an opportunity. 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 the key to an excellent investment decision.

But note: Baby Bunting Group may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).

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 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. Thank you for reading.