The goal of this article is to teach you how to use price to earnings ratios (P/E ratios). We’ll show how you can use Alm. Brand A/S’s (CPH:ALMB) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, Alm. Brand’s P/E ratio is 13.55. That is equivalent to an earnings yield of about 7.4%.
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How Do I Calculate A Price To Earnings Ratio?
The formula for price to earnings is:
Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS)
Or for Alm. Brand:
P/E of 13.55 = DKK52.6 ÷ DKK3.88 (Based on the year to September 2018.)
Is A High Price-to-Earnings Ratio Good?
A higher P/E ratio means that buyers have to pay a higher price for each DKK1 the company has earned over the last year. 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.
How Growth Rates Impact P/E Ratios
Earnings growth rates have a big influence on P/E ratios. Earnings growth means that in the future the ‘E’ will be higher. 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.
Alm. Brand saw earnings per share decrease by 29% last year. But over the longer term (5 years) earnings per share have increased by 26%.
How Does Alm. Brand’s P/E Ratio Compare To Its Peers?
The P/E ratio essentially measures market expectations of a company. As you can see below Alm. Brand has a P/E ratio that is fairly close for the average for the insurance industry, which is 12.8.
Its P/E ratio suggests that Alm. Brand shareholders think that in the future it will perform about the same as other companies in its industry classification. If the company has better than average prospects, then the market might be underestimating it. Further research into factors such asmanagement tenure, could help you form your own view on whether that is likely.
A Limitation: P/E Ratios Ignore Debt and Cash In The Bank
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 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.
How Does Alm. Brand’s Debt Impact Its P/E Ratio?
Alm. Brand has net cash of ø120m. That should lead to a higher P/E than if it did have debt, because its strong balance sheets gives it more options.
The Verdict On Alm. Brand’s P/E Ratio
Alm. Brand trades on a P/E ratio of 13.6, which is below the DK market average of 15.6. Falling earnings per share are likely to be keeping potential buyers away, the relatively strong balance sheet will allow the company time to invest in growth. If it achieves that, then there’s real potential that the low P/E could eventually indicate undervaluation.
Investors have an opportunity when market expectations about a stock are wrong. If it is underestimating a company, investors can make money by buying and holding the shares until the market corrects itself. So this free report on the analyst consensus forecasts could help you make a master move on this stock.
But note: Alm. Brand 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).
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.