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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 Banco de Sabadell, S.A.’s (BME:SAB) P/E ratio to inform your assessment of the investment opportunity. Based on the last twelve months, Banco de Sabadell’s P/E ratio is 18.28. In other words, at today’s prices, investors are paying €18.28 for every €1 in prior year profit.
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 Banco de Sabadell:
P/E of 18.28 = €0.91 ÷ €0.050 (Based on the year to March 2019.)
Is A High P/E Ratio Good?
A higher P/E ratio means that investors are paying a higher price for each €1 of company earnings. That is not a good or a bad thing per se, but a high P/E does imply buyers are optimistic about the future.
How Growth Rates Impact P/E Ratios
Companies that shrink earnings per share quickly will rapidly decrease the ‘E’ in the equation. Therefore, even if you pay a low multiple of earnings now, that multiple will become higher in the future. A higher P/E should indicate the stock is expensive relative to others — and that may encourage shareholders to sell.
Banco de Sabadell’s earnings per share fell by 67% in the last twelve months. And EPS is down 30% a year, over the last 3 years. This could justify a low P/E.
How Does Banco de Sabadell’s P/E Ratio Compare To Its Peers?
We can get an indication of market expectations by looking at the P/E ratio. As you can see below, Banco de Sabadell has a higher P/E than the average company (9.6) in the banks industry.
Banco de Sabadell’s P/E tells us that market participants think the company will perform better than its industry peers, going forward. 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.
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. In theory, a company can lower its future P/E ratio by using cash or debt to invest in growth.
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).
So What Does Banco de Sabadell’s Balance Sheet Tell Us?
Net debt totals a substantial 126% of Banco de Sabadell’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 Banco de Sabadell’s P/E Ratio
Banco de Sabadell’s P/E is 18.3 which is about average (17.6) in the ES market. With significant debt and no EPS growth last year, the P/E suggests shareholders are expecting higher profit in the future.
When the market is wrong about a stock, it gives savvy investors an opportunity. 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.
Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
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 email@example.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.