Read This Before You Buy E.ON SE (FRA:EOAN) Because Of Its P/E Ratio

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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 E.ON SE’s (FRA:EOAN) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, E.ON’s P/E ratio is 9.14. In other words, at today’s prices, investors are paying €9.14 for every €1 in prior year profit.

Check out our latest analysis for E.ON

How Do You Calculate E.ON’s P/E Ratio?

The formula for price to earnings is:

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

Or for E.ON:

P/E of 9.14 = €9.92 ÷ €1.09 (Based on the year to March 2019.)

Is A High Price-to-Earnings Ratio Good?

A higher P/E ratio means that investors are paying a higher price for each €1 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 Growth Rates Impact P/E Ratios

Generally speaking the rate of earnings growth has a profound impact on a company’s P/E multiple. 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. And as that P/E ratio drops, the company will look cheap, unless its share price increases.

E.ON’s earnings per share fell by 44% in the last twelve months. But it has grown its earnings per share by 29% per year over the last five years.

How Does E.ON’s P/E Ratio Compare To Its Peers?

The P/E ratio indicates whether the market has higher or lower expectations of a company. We can see in the image below that the average P/E (20.8) for companies in the integrated utilities industry is higher than E.ON’s P/E.

DB:EOAN Price Estimation Relative to Market, June 17th 2019
DB:EOAN Price Estimation Relative to Market, June 17th 2019

E.ON’s P/E tells us that market participants think it will not fare as well as its peers in the same industry. While current expectations are low, the stock could be undervalued if the situation is better than the market assumes. If you consider the stock interesting, further research is recommended. For example, I often monitor director buying and selling.

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. Thus, the metric does not reflect cash or debt held by the company. 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.

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.

Is Debt Impacting E.ON’s P/E?

E.ON has net debt equal to 36% of its market cap. While that’s enough to warrant consideration, it doesn’t really concern us.

The Bottom Line On E.ON’s P/E Ratio

E.ON’s P/E is 9.1 which is below average (19.7) in the DE market. The debt levels are not a major concern, but the lack of EPS growth is likely weighing on sentiment.

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 report on the analyst consensus forecasts could help you make a master move on this stock.

You might be able to find a better buy than E.ON. 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).

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.