Is CanWel Building Materials Group Ltd.’s (TSE:CWX) High P/E Ratio A Problem For Investors?

The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll apply a basic P/E ratio analysis to CanWel Building Materials Group Ltd.’s (TSE:CWX), to help you decide if the stock is worth further research. CanWel Building Materials Group has a price to earnings ratio of 30.23, based on the last twelve months. That means that at current prices, buyers pay CA$30.23 for every CA$1 in trailing yearly profits.

View our latest analysis for CanWel Building Materials Group

How Do You Calculate A P/E Ratio?

The formula for P/E is:

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

Or for CanWel Building Materials Group:

P/E of 30.23 = CA$5.53 ÷ CA$0.18 (Based on the year to September 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 CanWel Building Materials Group Have A Relatively High Or Low P/E For Its Industry?

The P/E ratio essentially measures market expectations of a company. The image below shows that CanWel Building Materials Group has a higher P/E than the average (13.8) P/E for companies in the trade distributors industry.

TSX:CWX Price Estimation Relative to Market, November 29th 2019
TSX:CWX Price Estimation Relative to Market, November 29th 2019

That means that the market expects CanWel Building Materials Group will outperform other companies in its industry. The market is optimistic about the future, but that doesn’t guarantee future growth. So investors should always consider the P/E ratio alongside other factors, such as whether company directors have been buying shares.

How Growth Rates Impact P/E Ratios

If earnings fall then in the future the ‘E’ will be lower. That means even if the current P/E is low, it will increase over time if the share price stays flat. A higher P/E should indicate the stock is expensive relative to others — and that may encourage shareholders to sell.

CanWel Building Materials Group’s earnings per share fell by 60% in the last twelve months. And EPS is down 16% a year, over the last 5 years. This might lead to muted expectations.

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

Don’t forget that the P/E ratio considers market capitalization. That means it doesn’t take debt or cash into account. 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.

So What Does CanWel Building Materials Group’s Balance Sheet Tell Us?

CanWel Building Materials Group has net debt worth 73% of its market capitalization. If you want to compare its P/E ratio to other companies, you should absolutely keep in mind it has significant borrowings.

The Bottom Line On CanWel Building Materials Group’s P/E Ratio

CanWel Building Materials Group trades on a P/E ratio of 30.2, which is above its market average of 15.0. 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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.

You might be able to find a better buy than CanWel Building Materials Group. 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).

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.