This article is written for those who want to get better at using price to earnings ratios (P/E ratios). We’ll show how you can use XPO Logistics, Inc.’s (NYSE:XPO) P/E ratio to inform your assessment of the investment opportunity. What is XPO Logistics’s P/E ratio? Well, based on the last twelve months it is 25.10. That means that at current prices, buyers pay $25.10 for every $1 in trailing yearly profits.
How Do You Calculate A P/E Ratio?
The formula for P/E is:
Price to Earnings Ratio = Price per Share ÷ Earnings per Share (EPS)
Or for XPO Logistics:
P/E of 25.10 = USD99.11 ÷ USD3.95 (Based on the trailing twelve months to December 2019.)
Is A High P/E Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each USD1 of company earnings. That isn’t necessarily good or bad, but a high P/E implies relatively high expectations of what a company can achieve in the future.
How Does XPO Logistics’s P/E Ratio Compare To Its Peers?
One good way to get a quick read on what market participants expect of a company is to look at its P/E ratio. You can see in the image below that the average P/E (21.4) for companies in the logistics industry is lower than XPO Logistics’s P/E.
That means that the market expects XPO Logistics will outperform other companies in its industry. Shareholders are clearly optimistic, but the future is always uncertain. So investors 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. When earnings grow, the ‘E’ increases, over time. That means even if the current P/E is high, it will reduce over time if the share price stays flat. A lower P/E should indicate the stock is cheap relative to others — and that may attract buyers.
XPO Logistics increased earnings per share by an impressive 25% over the last twelve months. And earnings per share have improved by 90% annually, over the last three years. So one might expect an above average P/E ratio.
Remember: P/E Ratios Don’t Consider The Balance Sheet
One drawback of using a P/E ratio is that it considers market capitalization, but not the balance sheet. So it won’t reflect the advantage of cash, or disadvantage of debt. 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.
So What Does XPO Logistics’s Balance Sheet Tell Us?
Net debt is 50% of XPO Logistics’s market cap. You’d want to be aware of this fact, but it doesn’t bother us.
The Verdict On XPO Logistics’s P/E Ratio
XPO Logistics trades on a P/E ratio of 25.1, which is above its market average of 18.5. Its debt levels do not imperil its balance sheet and it is growing EPS strongly. So on this analysis it seems reasonable that its P/E ratio is above average.
Investors have an opportunity when market expectations about a stock are wrong. 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.
You might be able to find a better buy than XPO Logistics. 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 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.
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.