This article is for investors who would like to improve their understanding of price to earnings ratios (P/E ratios). We’ll show how you can use Delko S.A.’s (WSE:DEL) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, Delko’s P/E ratio is 3.83. That is equivalent to an earnings yield of about 26.1%.
How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for Delko:
P/E of 3.83 = PLN9.200 ÷ PLN2.401 (Based on the year to September 2019.)
(Note: the above calculation results may not be precise due to rounding.)
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.
Does Delko Have A Relatively High Or Low P/E For Its Industry?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. If you look at the image below, you can see Delko has a lower P/E than the average (6.0) in the retail distributors industry classification.
Its relatively low P/E ratio indicates that Delko shareholders think it will struggle to do as well as other companies in its industry classification. Since the market seems unimpressed with Delko, it’s quite possible it could surprise on the upside. You should delve deeper. I like to check if company insiders have been buying or selling.
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. If earnings are growing quickly, then the ‘E’ in the equation will increase faster than it would otherwise. That means even if the current P/E is high, it will reduce over time if the share price stays flat. Then, a lower P/E should attract more buyers, pushing the share price up.
It’s nice to see that Delko grew EPS by a stonking 28% in the last year. And it has bolstered its earnings per share by 19% per year over the last five years. With that performance, I would expect it to have an above average P/E ratio.
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. Hypothetically, a company could reduce its future P/E ratio by spending its cash (or taking on debt) to achieve higher earnings.
Such spending might be good or bad, overall, but the key point here is that you need to look at debt to understand the P/E ratio in context.
Is Debt Impacting Delko’s P/E?
Net debt totals a substantial 119% of Delko’s market cap. If you want to compare its P/E ratio to other companies, you must keep in mind that these debt levels would usually warrant a relatively low P/E.
The Verdict On Delko’s P/E Ratio
Delko trades on a P/E ratio of 3.8, which is below the PL market average of 8.7. The company may have significant debt, but EPS growth was good last year. The low P/E ratio suggests current market expectations are muted, implying these levels of growth will not continue.
Investors should be looking to buy stocks that the market is wrong about. If the reality for a company is not as bad as the P/E ratio indicates, then the share price should increase as the market realizes this. Although we don’t have analyst forecasts shareholders might want to examine this detailed historical graph of earnings, revenue and cash flow.
Of course you might be able to find a better stock than Delko. 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 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.
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