Should You Be Tempted To Sell Marsh & McLennan Companies, Inc. (NYSE:MMC) Because Of Its P/E Ratio?

This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We'll look at Marsh & McLennan Companies, Inc.'s (NYSE:MMC) P/E ratio and reflect on what it tells us about the company's share price. What is Marsh & McLennan Companies's P/E ratio? Well, based on the last twelve months it is 33.89. In other words, at today's prices, investors are paying $33.89 for every $1 in prior year profit.

View our latest analysis for Marsh & McLennan Companies

How Do You Calculate Marsh & McLennan Companies's P/E Ratio?

The formula for P/E is:

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

Or for Marsh & McLennan Companies:

P/E of 33.89 = USD116.68 ÷ USD3.44 (Based on the year 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. All else being equal, it's better to pay a low price -- but as Warren Buffett said, 'It's far better to buy a wonderful company at a fair price than a fair company at a wonderful price'.

Does Marsh & McLennan Companies 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. As you can see below, Marsh & McLennan Companies has a higher P/E than the average company (15.3) in the insurance industry.

That means that the market expects Marsh & McLennan Companies will outperform other companies in its industry. The market is optimistic about the future, but that doesn't guarantee future growth. So further research is always essential. I often monitor director buying and 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. When earnings grow, the 'E' increases, over time. Therefore, even if you pay a high multiple of earnings now, that multiple will become lower in the future. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

Marsh & McLennan Companies increased earnings per share by 5.6% last year. And its annual EPS growth rate over 5 years is 5.5%.

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

The 'Price' in P/E reflects the market capitalization of the company. So it won't reflect the advantage of cash, or disadvantage of debt. Theoretically, a business can improve its earnings (and produce a lower P/E in the future) by investing in growth. That means taking on debt (or spending its cash).

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).

How Does Marsh & McLennan Companies's Debt Impact Its P/E Ratio?

Marsh & McLennan Companies's net debt is 18% 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 Marsh & McLennan Companies's P/E Ratio

Marsh & McLennan Companies's P/E is 33.9 which is above average (18.4) in its market. With modest debt relative to its size, and modest earnings growth, the market is likely expecting sustained long-term growth, if not a near-term improvement.

Investors should be looking to buy stocks that the market is wrong about. 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 visualization of the analyst consensus on future earnings could help you make the right decision about whether to buy, sell, or hold.

But note: Marsh & McLennan Companies 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).

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.